An Asynchronous and Divergent Recovery May Put Financial Stability at Risk

After enduring a tumultuous 2020, the global economy is finally emerging from the worst phases of the COVID-19 pandemic, albeit with prospects diverging starkly across regions and countries—and only after a “lost year” spent in suspended animation. The economic trauma would have been much worse if the global economy had not been supported by the unprecedented policy actions taken by central banks and by the fiscal measures implemented by governments.

Global markets are watching the current rise of US long-term interest rates, worried that a rapid and persistent increase may result in tighter financial conditions, potentially hurting growth prospects. Since August 2020, the yield on the US 10-year Treasury note has risen by 1¼ percentage points to around 1¾ percent in early April 2021, returning close to its pre-pandemic level of early 2020.

The good news is that the rising rates in the United States have been spurred in part by improving vaccination prospects and strengthening growth and inflation. As described in the latest Global Financial Stability Report, both nominal and real interest rates have risen, although nominal yields have risen more, suggesting that market-implied inflation—the difference between yields on nominal and inflation-indexed Treasury securities—is recovering. Allowing a modest amount of inflation has been an intended objective of easy monetary policy.

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