Economic policy in a changing world

The globalised world trade order was always vulnerable to a situation where any country or group of countries could decide that following the rules would not serve their near-term interests. Globalisation led to large trade imbalances. Surplus accumulation led to an increase in global excess savings and a decline in global real rates. This fall in real rates contributed substantially to the challenges experienced by monetary policy. The social consequences manifested themselves in a secular loss in bargaining power for labour in advanced economies. Large segments of the public in Western countries justifiably felt they had been “left behind” by globalization. Globalisation not only failed to spread liberal values, because democracy and freedom do necessarily travel with goods and services, but also weakened them in the countries that were its strongest proponents. This period of profound change in the global economic order comes with equally profound challenges for economic policy. It is likely that we will experience more frequent, lumpier and also larger negative supply shocks. These supply shocks are likely to emanate not only from new frictions in the global economy, but even more so from our policy response to mitigate those frictions. Fiscal policy will be called upon to play a greater role: a world of supply shocks makes monetary stabilisation more difficult. Demands for policy coordination are likely to increase, which is something our macroeconomic policy architecture is not designed to deliver. There must be a clear and credible fiscal path ahead that focuses on investment; central banks should ensure that the primary compass for their decisions is inflation expectations.