How to think about policy in a polycrisis

Welcome to the “polycrisis” – a world where, according to the historian Adam Tooze, “economic and non-economic shocks” are trapped “to the end”. We have an inflation shock that comes from the disruption caused by the pandemic, the policy response to that pandemic and the energy shock from the war. This war in turn is related to the breakdown of relations between the major countries. Slow growth, rising inequality and an over-reliance on credit have undermined political stability in many high-income democracies. The credit crunch led to a major financial crisis that saw interest rates hit a decade low and the world remains financially vulnerable. Adding to these stresses are the dangers of climate change.

It is very convenient to think of the world in intellectual silos, focusing on macroeconomics, money, politics, social change, policy, disease and the environment, and dismissing others. In a peaceful environment, it might even work well. It is also very difficult to think about the relationship between these aspects of experience. But sometimes, like now, it becomes unavoidable.

It is not only theoretically true that everything depends on everything else. This is a truth we can no longer ignore in practice. As my colleague Gillian Tett warns, silos are dangerous. We have to think systematically. Economists must recognize the relationship between economics and other forces. Navigating the current storm forces us to have a broader understanding.

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This is not an objection to a detailed analysis of each element in the picture. Economists should continue to look carefully at what they know, because it is both difficult and important in itself. Thus, the data and analysis in the latest OECD Economic view still both valuable and enlightening. But, inevitably, they also lack essential features.

A line graph of the estimated share (%) of OECD GDP spent on energy end-uses shows The impact of this energy crisis is the biggest since the 1970s

So consider what the report says about the economy.

First, the energy crisis is very serious. The share of OECD members’ GDP in final energy use is close to 18 percent, more than double in 2020. In Europe, the increase must be much greater. . The highest rate was in the early 1980s, during the oil shock caused by Saddam Hussein’s invasion of Iran.

Second, inflationary pressures are both intense and diffuse. This in turn has implications for inflation in the early 1980s, which followed the high and volatile inflation of the 1970s. Today, the energy price shock caused by the war in Ukraine followed a negative shock for supply and a positive shock for demand caused by Covid. This combination of supply and demand shocks with significant reductions in real wages and loss of national income in energy-importing countries is causing central bankers to it will be very difficult.

Bar graph of Share (%) of goods in inflation basket with price increase above 6% showing that inflation is increasing in the economy.

Third, there may be a slowdown in global economic growth between 2022 and 2023. The latter is projected at 2.2 percent. Moreover, a large part of this growth will be generated by Asian economies. The British and German economies are expected to shrink slightly, while the eurozone and US economies are expected to shrink by just 0.5 percent.

Column graph of contribution to global GDP growth (% points) showing Asia is expected to generate almost all global growth in the coming years.

Fourth, while it’s not surprising, it’s an unhappy picture, it could be much worse. The energy outlook is very uncertain, with a significant risk that Europe’s gas reserves will be smaller next winter than this one, especially if the winter is cold or natural gas imports are too low. natural. Rising interest rates could cause more financial turmoil and a deeper recession than previously thought. Malnutrition can cause deeper hardships in developing countries than expected, especially in a financially constrained world.

Line graph of Scenarios for gas storage levels (%) in the EU and UK until winter 2023/24 showing that gas storage in Europe could be lower next winter because of this.

The view of the OECD, which I share, is that the central bank should not go above the inflation rate as a signal that its job is done. It is essential to restore the cost of living. In this context, it is also important to have a fiscal policy aimed at supporting those most affected by the price of energy. Also important is the push to expand the supply of renewable energy and improve energy efficiency. This is the “first” of the European conflict with Russia.

Graph of corporate bond yields (A-BBB rated, %) showing corporate bond yields jumped as monetary policy began to tighten

However, this is an incomplete picture. Another element is the possible development of the war in Ukraine and what is needed to bring it to a satisfactory end. Another is how China will escape the trap of its zero-Covid policy. Last but not least is finding ways to help developing countries through the looming financial crisis, while supporting climate change.

Line graph of Central Bank policy rates, with OECD forecast (%) showing OECD forecast central bank policy rate increases slightly

The point is that we need to analyze within silos, while analyzing systematically across them. The OECD, for its benefit, created a group called New Approaches to Economic Challenges in 2012 to do this. As the group’s most recent report notes, we must analyze the connections between social, economic, political, geopolitical, health and environmental developments to address the challenges we face. Humans have created a world so interdependent that there is no other way. Of course, such an approach is difficult. This must be frustrating for professional experts working quietly in their silos. But since the financial crisis and especially over the past three years, such narrowness has been shown to be foolish. It should be the one who is really wrong, not the one who dares to tell the truth.

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So what has the OECD done in this matter? Some say it closes. This could be a mistake. If NAEC is not good enough, do better. The world we know today is not divided into neat silos. Our thinking should not stop at them either.

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