FRANKFURT (MNI) – Central banks must be ready to hike interest
rates before price stability is jeopardized if banks become excessively
dependent on cheap short-term financing, the general director of the
Bank for International Settlements (BIS) argued in an interview
published Friday.

“Low key rates over a long period can, for example, entice banks to
make greater use of short-term financing,” Jaime Caruana told the German
daily Frankfurter Allgemeine Zeitung.

“Over the medium term, this can mean that key rates must be raised,
even if macroeconomic data do not call for it,” he said.

“In the advanced economies, I see no inflationary pressure for the
time-being that would call for” a hike in interest rates, Caruana said.
“Greater leeway will not emerge until government deficits are
corrected.”

The BIS does not see a risk of new bubbles in the industrialized
countries at this time, he said. “However, we must pay attention to the
distortions and risks that can result from loose monetary policy over
the medium term.”

The reduction of public deficits, coupled eventually with
structural reforms, is one of the three tasks to be completed in the
wake of the financial crisis, he said. Regulatory reforms must also be
implemented this year and banks must repair their balance sheets.

These measures should accelerate the return to normal financial
conditions, he argued.

“Banks must pursue their reforms,” Caruana insisted. “The banking
system is still fragile.”

Even if this means extra costs for banks, “the advantages are
immediately evident in the sense that banks’ resilience is the most
important factor in a situation where the probability of shocks still
appears to be high,” he explained.

Moreover, studies by the BIS suggest that the costs of such reforms
are fairly low and temporary, he added.

Caruana underscored the need for internationally harmonized
regulatory reform, given the possibility that banks will shift
activities to zones with the least constraints. He also stressed that a
bank tax “can never substitute for solid own-capital.”

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