“There will be people on the streets,” Kristalina Georgieva, Managing Director of the International Monetary Fund, predicted to her global audience.

This warning may seem generic and vague, but it is very important. Successive crises, from the pandemic to the energy one, have taken their toll on the global production chain, supply chains, consumption, working conditions and incomes of companies and individuals. And then inflation came. Its consequences permeate the entire structure of the economy and society. The most vulnerable are the groups with the weakest income. Rising prices immediately impoverish them, and the duration and prospects for a recovery of their—in any case—limited income are limited.

These conditions activated the reflexes of central banks. First, Western central banks have sent a loud signal, reassuring citizens that they have the right monetary policy tools to keep inflation in check. But the use of these tools is almost always more complex than described in economics textbooks, and often proves to be less efficient and unreliable in their results. The interest rate policy is based on a number of assumptions and assumptions. For this reason, models have been developed to determine the timing, extent and duration of increases and decreases in interest rates. The failure of the models can be as disastrous as inflation if an increase in interest rates more than necessary leads to a recession and higher unemployment, i.e. stagflation. The reverse is also bad. Less than necessary rate increases will not be able to curb inflation, which can take hold with all the ensuing consequences for the economy and society. Beyond these fragile balance sheets, there is also an unstable fiscal policy factor. What seems socially correct can be fatal. “Unchecked” expansionary policies in the form of subsidies keep demand artificially high, while in reality the economy is being eroded internally and the chances of lowering inflation and returning to a virtuous cycle of growth are diminishing.

As a general observation, we should note that the logic that a policy is suitable for application everywhere is wrong. The faster and more aggressive rate hikes by the Fed compared to the ECB are due to the different conditions that characterize each economy. In this particular case, the fact that the subsidy packages in the United States during the pandemic were too generous compared to those in the euro area, led to the maintenance of a fictitiously high demand. The Fed has been blamed for not responding quickly and decisively to curb looming inflationary pressures. When she finally “got her gun”, she had no choice but to hit hard and with absolute determination. In contrast, the ECB, given that fiscal easing has remained at manageable levels during the pandemic, has been more cautious in pursuing a more aggressive monetary policy. This partly explains the aggressive and dovish behavior of the two central banks, respectively.

Smaller than necessary rate hikes will fail to curb inflation, which may be consolidating.

Beyond this general conclusion, it is useful to understand that both the originating causes and the response to inflationary pressures in the Americas and the Eurozone show more differences than similarities. The energy crisis fueled inflationary pressures in the Americas to a lesser extent than in the Eurozone (for 2022, inflation is 7.5% and 10%, respectively). In addition, the greater dependence of European economies on external suppliers and informal competition between countries for suppliers increase uncertainty, which is reflected in the prices of goods and services. On the contrary, the United States has a sufficient number of generation and distribution networks that have not suffered from the war in Ukraine, which has led to a well-functioning energy market – of course, despite any turmoil caused by international events. The other two factors are also different. Even before the energy crisis, unemployment in the Eurozone was twice as high as in America (6.7% and 3.5% respectively). Just as importantly, demand in America has been and remains higher, while Europe has seen a significant decline, especially after the start of the war in Ukraine and the energy crisis. Finally, it’s worth saying that, unlike during the pandemic, the Eurozone’s energy crisis bailout packages are – proportionately – much larger than those in the US. This in itself affects the “quality” of demand between the two economies. When demand is based on real income, the prospects for a recovery are much better and inflationary pressures are less.

Given these qualitative and quantitative characteristics of the US and Eurozone economies, it is understandable that the two central banks choose interest rate policies with different time frames and targeting. The ECB has already raised interest rates to 1.75%, and experts predict an increase of 0.75% in the coming days. The Fed has already raised interest rates to 3.25% with forecasts for a further 0.75% hike in early November. A rate close to 4.6% is forecast for 2023. Clearly, various volatile factors can affect the set of policies that each central bank takes based on current data. For example, recent estimates show that inflation has already reached its peak in the US, and recession is already inevitable in the Eurozone. If there is a common goal for the two central banks, it is a full return to price stability and sustainable growth with low inflation, low interest rates and low unemployment.

Finally, all good stories have an epitaph. Central bankers have their own way of expressing themselves. Fed Chairman Jerome Powell warned that conducting monetary policy “includes pain.” Politicians should remember Aristotle’s dictum: “Behind every pain there is a mistake.”

* Mr. Giorgos Stoumpos was Professor of Political Economy and Executive Director of the Bank of Greece.