The Bank for International Settlements (BIS) released its latest Economic Report, extensively outlining several interconnected challenges facing the world economy. These include uncertainties around the longevity of the artificial intelligence expansion, persistent financial fragilities, stretched government budgets, and renewed inflationary risks.
The research report from BIS now calls on policymakers to prioritise stable prices, sustainable public finances, broader financial oversight that extends beyond traditional banks, and structural changes to support lasting growth.
Coherent actions across policy areas are essential, as success ultimately rests on solid fiscal and financial foundations.
Until earlier this year, the global economy displayed notable resilience.
Optimism surrounding AI progress and unexpectedly strong international trade supported activity, with related investments and productivity expectations helping to maintain favorable financial conditions.
This positive backdrop shifted after the historic closure of the Strait of Hormuz, which sparked a supply crisis affecting energy and other raw materials.
Although geopolitical tensions have eased somewhat and oil prices have fallen significantly, the disruptions may continue to weigh on the outlook.
The research report from BIS examines four key pressure points demanding urgent attention.
Inflation has already risen, and in an environment of more frequent negative supply shocks, there is a clear risk that higher price pressures could become entrenched if expectations become unanchored.
Such a development could keep inflation elevated even after energy supplies normalize following the reopening of the strait.
While AI promises substantial future productivity gains, current enthusiasm may prove short-lived.
The sharp increase in capital spending could falter if supply bottlenecks constrain production.
Intense competition for leadership in the sector also raises the possibility of over-investment, echoing patterns seen in previous waves of technological innovation.
Financial vulnerabilities remain elevated.
Liquidity in core bond markets appears more fragile amid stretched asset valuations and investor complacency.
Financing for AI-related activities has become increasingly leveraged, with complex interdependencies running through the supply chain.
Public debt levels sit near record highs in many economies, and higher interest rates are adding strain to government balance sheets.
This leaves authorities with reduced capacity to respond to future downturns or crises.
A central concern is the emerging link between fiscal weaknesses and financial stability.
Record public debt combined with the growing role of non-bank entities, particularly highly leveraged hedge funds, is creating a new sovereign-financial stability nexus.
These players can amplify and accelerate the transmission of market stress, especially in major advanced economies, posing fresh challenges for central banks.
This nexus could lead to more frequent and sharper drops in sovereign bond prices.
Rapid repricing would tighten financial conditions quickly, dampen demand with uncertain effects on inflation, and complicate the calibration of monetary policy.
Central banks might then intervene to ease market stress, but such steps could carry side effects for market and fiscal discipline.
The report emphasizes that policy actions must reinforce rather than counteract each other.
Safeguarding price stability, restoring fiscal sustainability, strengthening financial resilience beyond the banking sector, and advancing structural reforms are presented as complementary priorities.
Discipline in each area expands the space available for the others to operate effectively.
BIS GM Pablo Hernández de Cos stated that policymakers must act now, noting that delay will only raise the cost of necessary adjustments and increase the chance of difficult trade-offs ahead. The research report from BIS has now concluded that by addressing these challenges promptly, authorities can better protect the stability of the global economy in the years to come.