(Finance) – “The opening of global markets has brought dozens of countries into the world economy and has lifted millions of people out of poverty, 800 million in China alone in the last 40 years. It has generated the largest and most rapid improvement in quality of life never seen in history. But our model of globalization also contained a fundamental weakness. The persistence of free trade between countries requires that there be international rules and settlements of disputes implemented by all participating countries. But in this new globalized world, the commitment of some of the largest trading partners to respect the rules has been ambiguous from the beginning. Unlike the EU single market, where enforcement of the rules is intrinsic and takes place through the European Court of Justice, international organizations created to oversee the fairness of global trade have never been given equivalent independence and powers. Therefore, the globalized world trading order has always been vulnerable to a situation in which any country or group of countries could decide that compliance with the rules would not would have served their own short-term interests.” This is what he said Mario Draghi in his speech on economic policy at the Nabe, Economic Policy Conference in Washington, during the conferment of Paul A. Volcker Lifetime Achievement Award.
“Globalization – he continued Dragons – led to large trade imbalances, and policymakers have been slow to recognize the consequences. These imbalances arose in part because trade openness occurred between countries with very different levels of development, which limited the ability of poorer countries to absorb imports from richer ones and gave them justification to protect industries domestic ones arising from foreign competition. But they also reflect deliberate policy choices in large parts of the world to accumulate trade surpluses and limit market adjustment.”
“The accumulation of surpluses has led to an increase in global excess saving and a decline in global real rates. This – Draghi continued – did not correspond to an increase in investment demand. Public investment fell by nearly two percentage points in G7 countries from the 1990s to 2010, while private sector investment stalled once companies deleveraged after the great financial crisis. This decline in real rates contributed substantially to the challenges encountered by monetary policy in the 2010s, when nominal interest rates were squeezed to the lower bound. Monetary policy was still able to generate employment through unconventional measures and produced better results than many expected. But these measures were not enough to completely eliminate the slowdown in the labor market. The social consequences manifested themselves in one secular loss of bargaining power in advanced economies, as jobs have been displaced by offshoring or wage demands have been contained by the threat of offshoring. In the G7 economies, total exports and imports of goods increased by about 9 percentage points from the early 1980s to the great financial crisis, while labor’s share of income fell by about 6 percentage points over that period. This was the steepest decline since data for these economies began in 1950.”
“Faced with sluggish labor markets, declining public investments, a decreasing share of labor and the delocalization of jobs, large segments of public opinion in Western countries – explained Draghi – have rightly felt left behind by globalization. Consequently, contrary to initial expectations, globalization not only has not spread liberal values, because democracy and freedom do not necessarily travel with goods and services, but has also weakened them in the countries that were their strongest supporters, instead fueling the rise of inward-oriented forces. Western public perception became that ordinary citizens were playing an imperfect game, which had caused the loss of millions of jobs, while governments and businesses remained indifferent. Instead of traditional standards of efficiency and cost optimization, citizens wanted a more equitable distribution of the benefits of globalization and a greater focus on economic security. To achieve these results, a more active use of statecraft (the art of governing) was expected, be it assertive trade policies, protectionism or redistribution”. A trend that – he underlined Dragons – has been strengthened by the pandemic, leading many Western economies towards re-shoring strategic industries and bringing together critical supply chains, and by the war of aggression in Ukraine which highlighted the dangers of excessive dependence on trading partners large and unreliable that threaten our values.
In this scenario, – said Draghi – theurgency to address climate change. “This period of profound changes in the global economic order – highlighted Draghi – entails equally profound challenges for economic policy. First, the nature of the shocks to which our economies are exposed will change. Now, with China’s advancement up the value chain, it will not be replaced by another slowdown exporter in the global labor market. On the contrary, more frequent, more severe and even larger negative supply shocks are likely to occur as our economies adapt to this new environment. To restructure supply chains and decarbonise our economies, we need to invest a huge amount of money in a relatively short time horizon, with the risk that capital will be destroyed faster than it can be replaced, he added.
“The second key change in the macroeconomic landscape – said Draghi – is that thefiscal policy will be called upon to play a greater role, which means, I expect, persistently higher government deficits. The role of fiscal policy is classically divided into allocation, distribution and stabilization, and on all three fronts, demands for public spending are likely to increase. Fiscal policy will be called upon to increase public investments to meet new investment needs. Governments will need to address wealth and income inequalities. Furthermore, in a world of supply shocks, fiscal policy will likely also have to play a greater stabilizing role, a role we had previously assigned primarily to monetary policy.”
“A world of supply shock – warned Draghi – makes monetary stabilization more difficult. Monetary policy lags are typically too long to curb supply-side inflation or offset the resulting economic contraction, meaning monetary policy can at most focus on limiting second-round effects. Therefore, fiscal policy will naturally be called upon to play a larger role in stabilizing the economy, as fiscal policies can attenuate the effects of supply shocks on GDP with a shorter pass-through lag. We have already seen this during the energy shock in Europe, where subsidies compensated families for around a third of their loss of well-being and in some EU countries, such as Italy, they compensated for up to 90% of the loss of power of purchase for the poorest families”.
“Moreover, – he added Dragons – we have a third change: if we are entering an era of greater geopolitical rivalry and more transactional international economic relations, the business models based on large trade surpluses may no longer be politically sustainable. Countries that want to continue exporting goods may have to be more willing to import other goods or services to earn this right, or face increased retaliatory measures. This change in international relations will affect the global supply of savings, which will have to be reallocated towards domestic investment or reduced by a decline in GDP. In both scenarios, the downward pressure on global real rates that has characterized much of the globalization era is expected to reverse. To stabilize growth potential and reduce inflation volatility, we will need a change in overall policy strategy, one that focuses both on completing ongoing supply-side transitions and on stimulating productivity growth, where l Widespread adoption of AI (artificial intelligence) could help.”
To do all this quickly – continued Draghi – “it will be necessary to appropriate policy mix: a cost of capital low enough to stimulate investment spending, financial regulation that supports capital reallocation and innovation, and a competition policy that facilitates state aid where it is justified.”
One of the implications of this strategy, for Draghi, is that “fiscal policy will likely become more interconnected to monetary policy. In the short term, whether fiscal policy has sufficient space to achieve its various objectives will depend on the reaction functions of central banks “.
“In Europe, where fiscal policies are decentralized, – this is the proposal of Dragons – we can also go a step further by financing more investments collectively at Union level. L’issuing common debt to finance investments It would expand the collective fiscal space available to us, alleviating some pressures on national budgets. At the same time, given that EU spending is more programmatic – often extending over a multi-year horizon – making investments at this level would ensure a stronger commitment to fiscal policy being ultimately non-inflationary, which central banks could reflect this in their medium-term inflation outlook. Second, if fiscal authorities were to set credible fiscal paths in this way, central banks would need to ensure that the primary focus of their decisions is inflation expectations. In the coming years, monetary policy will face a difficult context, in which it will have to distinguish more than ever between temporary and permanent inflation, between pressures for wage growth and self-fulfilling spirals, and between the inflationary consequences of good or bad public spending. . In this context, accurate measurement and meticulous attention to inflation expectations are the best way to ensure that central banks can contribute to an overall policy strategy without compromising price stability or their own independence.”