By Marc Jones
LONDON (Reuters) - Major central banks should press ahead with interest rate increases, the Bank for International Settlements said on Sunday, while recognizing that some turbulence in financial markets will have to be negotiated along the way.
The BIS, an umbrella body for leading central banks, said in one of its most upbeat annual reports for years that global growth could soon be back at long-term average levels after a sharp improvement in sentiment over the past year.
Though pockets of risk remain because of high debt levels, low productivity growth and dwindling policy firepower, the BIS said policymakers should take advantage of the improving economic outlook and its surprisingly negligible effect on inflation to accelerate the "great unwinding" of quantitative easing programs and record low interest rates.
New technologies and working practices are likely to be playing a roll in suppressing inflation, it said, though normal impulses should kick in if unemployment continues to drop.
"Since we are now emerging from a very long period of very accommodative monetary policy, whatever we do, we will have to do it in a very careful way," BIS's head of research, Hyun Song Shin, told Reuters.
"STAY THE COURSE"
"If we leave it too late, it is going to be much more difficult to accomplish that unwinding. Even if there are some short-term bumps in the road it would be much more advisable to stay the course and begin that process of normalization."
Shin added that it will be "very difficult, if not impossible" to remove all those bumps.
Good communication from central bankers will be important, but even more crucial is the need for banks to be strong enough to cope with any turbulence.
The BIS identified four main risks to the global outlook in the medium-term.
A sudden flare-up of inflation which forces up interest rates and hurts growth, financial stress linked to the contraction phase of financial cycles, a rise in protectionism and weaker consumption not offset by stronger investment.
The first seems unlikely for now at least, with Shin saying that the BIS, like many, had been surprised that inflation and wage growth has remained so subdued as growth in major economies has picked up.
The question for central bankers, therefore, is whether new technologies and working practices had fundamentally changed the inputs in their economic models and whether it is right to keep such a heavy focus on keeping inflation at certain levels -- near 2 percent for likes of the European Central Bank and U.S. Federal Reserve.