Jan Frait, CNB Deputy Governor
New Challenges in Central Banking
CNB Congress Centre
Prague, 6 October 2026
Opening remarks at the “New Challenges in Central Banking” conference marking the 100th anniversary of the National Bank of Czechoslovakia
Welcome to the Czech National Bank. I am pleased to welcome some of you back here to the Commodity Exchange building. This spring marked the 100th anniversary of the commencement of operations of the National Bank of Czechoslovakia, which represented the culmination of Czech economists’ aspiration for a respectable national currency under the care of an independent central bank. What may have seemed merely a dream a century ago is today thriving as a mature and healthy institution. That, however, is not the subject of today’s conference.
This year also marked another important “monetary” anniversary, one that few people remembered and probably nobody celebrated. Fifty years ago, in January 1976, the Jamaica Accords were adopted, formally confirming the end of the Bretton Woods system and “legalising” floating exchange rates. In reality, the Bretton Woods system had collapsed five years earlier, when US President Richard Nixon announced the suspension of the dollar’s convertibility into gold. One reason why the fiftieth anniversary of the Jamaica Accords passed largely unnoticed is that they merely formalised the conclusion of a prolonged crisis. They confirmed the unwillingness, or inability, of politicians to agree on a common reform of the international monetary order. At the time, the new rules were widely regarded as inferior and, at best, a second-best solution. Only some countries opted for floating exchange rates, while many smaller or less developed economies preferred some form of fixed exchange rate arrangement. In Europe, floating rates were viewed from the outset as a temporary solution, to be replaced by a more reliable system of fixed rates, ideally in the form of a common currency. Yet floating exchange rates have now been with us for more than 50 years. We have learned to live with them – some of us, including the Czech Republic and the Czech National Bank, quite successfully.
The collapse of the Bretton Woods system was an event that profoundly shaped the global economy over the subsequent decades. The end of fixed exchange rates significantly contributed to the “liberation” and expansion of financial intermediation, credit creation, capital flows and other powerful processes. Floating exchange rates and broader currency convertibility supported the forces of globalisation in both finance and trade. There is no consensus as to how, and to what extent, this particular factor contributed to what we have witnessed since then. We lack both convincing theories and compelling empirical evidence. We can only speculate about many of the links. Perhaps one reason is that academic macroeconomists have lost interest in complex political-economy processes of this kind and their research has moved in other directions. Another is the simple fact that it is challenging even for trained economists to understand the functioning of fiat currencies and their interaction with the real economy and macroeconomic dynamics. In the world of modern money, the two components of macroeconomic developments – real variables and inflation – lead lives of their own to some extent. As a result, nominal variables are difficult to predict and may move in non-linear and discontinuous ways. Ex post everything seems obvious, but ex ante we face one great mystery after another.
Those who play the electric guitar, or have at least tried to, may see a certain analogy here. Modern effects pedals can generate different sound waves of varying lengths from an initially simple note. These may move simultaneously or cross one another. Combining them often produces dynamic harmony, sometimes surprisingly melodious distortion and occasionally an ugly noise. Cycles and processes in the real economy and finance work in much the same way. With an electric guitar, you can test different combinations over hundreds of iterations and avoid those that clearly do not work. In the post-Bretton Woods system, where the individual waves emerge only once every few years or decades, we do not have that option. There is therefore a high probability that, despite all our efforts, we will be surprised by a cacophonous noise.
If we look at interest rate fluctuations since the effective demise of the Bretton Woods regime, we can see powerful trends. Oil and geopolitical shocks began to have a stronger global impact in the 1970s, manifested not only in inflation, but also in interest rates. Besides these shocks, however, psychological factors started to play a much greater role in driving fluctuations. Interest rates are pushed upwards and downwards by the mechanisms through which financial markets, the media, central banks and academic economists react, within a complex network, to certain initial fundamental signals. At times, these mechanisms operate as powerful amplifiers.
We have seen this in recent weeks as well. The debate about Federal Reserve policy and developments in US dollar market rates has refocused attention on the question of whether the setting of monetary policy rates is unduly influenced by feedback loops between central bankers and financial market participants, often described as “halls of mirrors” or “dogs chasing their tails”. In my experience, the mechanism is far more complex. Feedback effects can also clearly be found between the statements and beliefs of central bankers and academic macroeconomists. This was perhaps most evident during the first two decades of this century, when the convictions of a number of New Keynesian macroeconomists gradually paralysed central banks’ interest rate policies and subsequently acquired the status of conventional and unquestioned wisdom through empirical analysis. Equally, feedback effects exist among central banks themselves. Each conducts its policy seemingly autonomously, yet often, perhaps unconsciously, takes into account what other central banks, especially the major ones, are doing. In a globalised economy with floating exchange rates, this is hardly surprising. Taken together, this forms a complex and inherently unstable mechanism in which seemingly individual decisions take on a collective character, with sudden stops and sharp reversals.
This year, deserved attention has been paid to the potential effects of persistently rising private debt, and especially public debt, in advanced economies. Financial markets have wised up, and market participants are coming up with explanations as to why long-term interest rates must, in such an environment, be significantly higher than they were during the first quarter of this century. “Low for long” has been forgotten; the new creed is “high for long”. At first sight, the arguments supporting this view appear logical and impregnable. For many commentators, however, it represents a complete reversal of position. Demographic trends, which have been well known for years, are suddenly being presented as a major contributor to rising long-term rates, whereas only a few years ago they were regarded more as a source of “secular stagnation” requiring a constant decline in the natural rate of interest.
Strong demand for credit from households and firms has been around for many years. Structural public finance deficits are not a new phenomenon either. Following the global financial crisis, they came to be viewed as an essential component of the macroeconomic policy mix, preventing economies from falling into recession accompanied by excessively low inflation. This philosophy was also supported by the International Monetary Fund, which at the end of the last century was still a highly unpopular institution with a reputation for obsessive fiscal prudence. It is good that the IMF has begun once again to embrace its original DNA. This is also important because the tendency to maintain high budget deficits is a form of cross-border contagion. Higher deficits in one country make similar policies more acceptable to governments elsewhere, thereby collectively weakening fiscal responsibility.
The normative debate about fiscal policy and public debt should not, however, distract us from long-established macroeconomic logic. What we are witnessing today is a fairly strong credit boom, reflected in rising levels of private and public sector indebtedness. In this situation, one cannot help but recall Friedman’s hypothesis that progressively accelerating monetary expansion in an attempt to boost economic activity is ultimately futile. The same logic must also apply to fiscal expansion and private credit expansion. Such expansion temporarily boosts economic activity, reduces unemployment and dampens credit risk. Over time, however, it becomes less effective. Real variables tend to return to their original paths unless monetary and credit accommodation is intensified even further. Nor should we forget that credit booms can ultimately lead not only to inflation but also to sharp disinflation or even “bad” deflation.
Another risk associated with credit booms is pressure from a self-confident financial sector. Such pressure arises with unfailing regularity whenever the financial sector emerges from a difficult period, aided in part by public policy, and then enjoys several consecutive good years. At present, particularly in Europe, we are facing a coordinated effort to relax bank regulation and reshape the philosophy of banking supervision in the name of unlocking “trapped” capital for worthy causes such as the prevention of forest fires. This is being pursued even at the cost of a more lenient approach to liquidity risk management and an even greater disregard for sovereign risk, both of which were at the heart of recent crises. For me and my colleagues, who confronted these crises in central banks and in macroprudential and supervisory authorities during previous crises, the nostalgia for a world in which banks’ assets amounted to 33 times their capital is genuinely striking. What was clearly a historical anomaly seems to be re-emerging as a desired benchmark.
My opening remarks must now draw to a close, which means returning to the central theme. The fact that the current post-Bretton Woods monetary order basically has a very short history has profound implications. Our experience with its functioning is limited, as we have gone through only a small number of economic cycles, let alone financial cycles, with it. Its early years were chaotic, with swings in the real economy, prolonged exchange rate volatility, elevated inflation and unusually high interest rates by historical standards. This was followed by an unexpected period of stability, previously attributed to the growing wisdom of central banks, but today more commonly interpreted as a by-product of favourable geopolitical developments and, above all, globalisation. Subsequently, however, manifestations of financial and economic instability have re-emerged, including inflation fluctuations that are difficult to explain. Our ability to forecast these swings is far from perfect. Nevertheless, we have become reasonably adept at assessing medium-term risks. We understand that when things go unexpectedly well or move in just one direction for several years in a row, we need to be on our guard and maintain a conservative policy stance as a precaution.
The final thing I would like to highlight is the near-consensus that has recently emerged among economists, namely that large public debt will lead to fiscal dominance, constrain central bank independence and impair central banks’ ability to maintain price stability. Personally, I find this consensus just as unconvincing as the relatively recent one that held that central banks had to pursue extremely accommodative monetary policy for a prolonged period in order to avoid destructive deflation. This is not to downplay the seriousness of the current situation. Rather, I wish to emphasise that its fragility will undoubtedly place central banks under pressure while simultaneously reinforcing the importance of their commitment to the principle of sound money. To concede in advance that this commitment may waver would create a powerful source of moral hazard and amount to granting a put option on the monetary financing of excessively indebted sectors. Our task, particularly in the present situation, is to resist with humility the forces that seek to dominate the monetary and financial sphere with hubris and short-sightedness. These are the very tendencies captured so eloquently by Nobel Prize-winning author Bob Dylan in one of his finest lyrics: “power and greed and the corruptible seeds seem to be all that there is”.
Let me now leave these dismal thoughts behind and wish you an enriching experience at this conference as the Indian summer draws to a close.
Jan Frait would like to thank Viktor Zeisel, Adviser to the CNB Bank Board, for his valuable comments and suggestions.