LARRY SUMMERS: We need a paradigm shift in monetary policy to solve low inflation

Famed economist and former US Treasury Secretary, Larry Summers, has warned that ending the current climate of persistent low inflation across the globe will need “shifts in policy paradigms” from the world’s central banks.

In other words — central bankers need to change their policy plans because whatever they’re doing right now, is not working.

Writing in the Financial Times on Sunday, Summers said that the current low inflationary environment is as serious as during the so-called “Great Inflation” of the 1970s, when inflation jumped, thanks in part to loose monetary policy in the US.

While the current situation may be almost exactly the opposite of how it was in the 70s, Summers says that policy makers must act strongly to combat another potential inflation crisis, even if it’s a problem of low inflation, rather than high.

Here’s what Summers had to say (emphasis ours):

Today’s risks of embedded low inflation tilting towards deflation and of secular stagnation in output growth are at least as serious as the inflation problem of the 1970s. They too will require shifts in policy paradigms if they are to be resolved.

In all likelihood the important elements will be a combination of fiscal expansion drawing on the opportunity created by super low rates and, in extremis, further experimentation with unconventional monetary policies.

Summers also warned central banks and policymakers to act quickly in order to avoid the same mistakes made during the 1970s inflation crisis. Here he is again (emphasis ours):

In the 1970s it took years for policymakers to recognise how far behind the curve they were on inflation and to make strong policy adjustments.

Policymakers continued to worry about a supposed lack of demand long after it was an important problem. The first attempts to contain inflation were too timid to be effective and success was achieved only with highly determined policy. A crucial step was the abandonment of the idea that the problem was structural in nature rather than driven by macroeconomic policy.

Rates of inflation across the globe are stubbornly low right now, with central banks forced to implement increasingly off the wall monetary policies in pursuit of higher rates of inflation.

Summers’ comments come at the same as the Bank for International Settlements (BIS) — known as the central banks’ central bank — warning that there’s a “gathering storm” in the global economy, in part caused by governments around the world running out of monetary policy options.

The ECB and the Bank of Japan, as well as central banks in Sweden, Denmark, and Switzerland are amongst those who have introduced negative interest rates to try and give inflation a bump.

Negative interest rates are intended to encourage borrowing, discourage upward pressure on currencies, and help trade.s

So far — other than a jump in Sweden’s rate of inflation last month — the policy has failed to have the desired effect. As an example, at the last reading, Eurozone inflation was below zero at -0.2%.

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