World economy faces 'pivotal moment', central bank body BIS says

By Marc Jones

LONDON (Reuters) -Trade tensions and fractious geopolitics risk exposing deep fault lines in the global financial system, central bank umbrella body the Bank for International Settlements, said in its latest assessment of the state of the world economy.

Outgoing head of the BIS, often dubbed the central bankers' central bank, Agustín Carstens, said the U.S.-driven trade war and other policy shifts were fraying the long-established economic order.

He said the global economy was at a "pivotal moment", entering a "new era of heightened uncertainty and unpredictability", which was testing public trust in institutions, including central banks.

The bank's report is published just over a week before U.S. President Donald Trump's trade tariff deadline of July 9 and comes after six months of intense geopolitical upheaval.

When asked about Trump's criticisms of U.S. Federal Reserve Jerome Powell, which have included Trump labelling the Fed chair as "stupid", he was not overly critical.

"It is to be expected at certain points in time that there will be friction," former Mexican central bank governor Carstens told reporters, referring to the relationship between governments and central banks. "It is almost by design".

DOLLAR DROP

The BIS' annual report, published on Sunday, is viewed as an important gauge of central bankers' thinking given the Switzerland-based forum's regular meetings of top policymakers.

Rising protectionism and trade fragmentation were "particular concerning" as they were exacerbating the already decades-long decline in economic and productivity growth, Carstens said.

There is also evidence that the world economy is becoming less resilient to shocks, with population ageing, climate change, geopolitics and supply chain issues all contributing to a more volatile environment.

The post-COVID spike in inflation seems to have had a lasting impact on the public's perception about price moves too, a study in the report showed.

High and rising public debt levels are increasing the financial system’s vulnerability to interest rates and reducing governments' ability to spend their way out of crises.

"This trend cannot continue," Carstens said referring to the rising debt levels and he said that higher military spending could push the debt up further.

Hyun Song Shin, the BIS's main economic adviser, also flagged the sharp fall in the dollar. It is down 10% since the start of the year and on track to be its biggest H1 drop since the free-floating exchange rate era began in the early 1970s.

He said there was no evidence that this was the start of a "great rotation" away from U.S. assets as some economists have suggested, but acknowledged that it was still too early to know given sovereign funds and central banks move slowly.

Shorter-term analysis, though, showed "hedging" by non-U.S. investors holding Treasuries and other U.S. assets appears to have made an "important contribution" to the dollar's slide over the last few months.

"We haven't seen anything (yet) that would give us any cause for alarm," Shin added.

The BIS had already published one part of its report last week that gave a stark warning about the rapid rise of so-called stablecoins.

In terms of the BIS' own finances, it said it made a net profit of 843.7 million IMF SDR ($1.2 billion), while its total comprehensive income reached a record high of SDR 3.4 billion ($5.3 billion) and currency deposits at the bank also reached a new high.

"It is important that the BIS has the highest creditworthiness out there," Carstens said.

(Reporting by Marc Jones. Editing by Jane Merriman)