Here’s why Covid-19 and climate change could be an end to economics as we know it

The onset of the pandemic had kicked off speculation about how it might reshape the ways economies behave, maybe even ushering in a distinct period.

A shopping mall deserted during lockdown restrictions in Noida, India | Representational image | Bloomberg

• The pandemic triggered aggressive measures to buffer economies.

• These efforts have included boosting the money supply and spending heavily.

• Some argue similar means should be deployed to address the climate crisis.

A recent paper on the seemingly mundane topic of inflation made a big splash with economists, mostly by suggesting they don’t really understand inflation.

Our fears that money will lose value as prices rise have long been thought to be self-fulfilling – if we think inflation will worsen, we behave in ways that make it so. But the paper submits that we really base our price expectations on lived experience, not notions of some uncertain future. After all, mainstream economics is full of ideas “everyone knows” to be true, the paper’s author writes, but are “actually arrant nonsense.”

While the paper is mostly focused on a single issue, it points to an intriguing broader question: if a concept as fundamental as inflation can be reconsidered, what can’t? How about other aspects of the ways governments manage economies and adapt them to potentially existential circumstances?

Since the global financial crisis in 2008, major central banks have pumped more than $25 trillion into the global economy – with over a third of that total delivered in response to COVID-19 alone. During the same period, balance sheets at these central banks have swelled as they’ve splurged on assets to keep economic activity flowing.

The way these institutions now deal with the resulting inflation will be pivotal. Some warn of potential disaster if the asset-buying doesn’t wind down soon, and public spending isn’t curbed.

Others argue against going the traditional route by signalling a full retreat to rein in purchases and deficits. They say “chill out” when it comes to central banks’ “quantitative easing” programmes for asset buying. They note that spending more than a government is taking in, in ways that break with traditional doctrine, can be justified as sound investment, given a context where our crisis situation might be poised to long outlast COVID-19.

The onset of the pandemic (so, so long ago) kicked off speculation about how it might reshape the ways economies behave, maybe even ushering in a distinct period that echoes the Keynesian and Monetarist eras.

Since then, new record temperatures, increasingly-destructive wildfires, and floods have only further clarified the enormity of the climate crisis. That’s spurred calls for the sort of crisis measures deployed during COVID-19 to become more permanent.

One proposed way of doing that is through “green quantitative easing.” The idea is that central banks would continue buying up assets, albeit only those deemed environmentally sustainable – like bonds issued by a government to fund a renewable energy project.

European Central Bank President Christine Lagarde has expressed a desire to use policy to do more to combat climate change. And while green quantitative easing could run afoul of the ECB’s market-neutrality principle, that principle may go the way of leaded gasoline.

Then, there’s direct public spending. Some are horrified by the $3.5 trillion US President Joe Biden wants to invest in infrastructure efforts including what could be the “biggest thing” Congress has ever done to combat climate change. Others call the amount modest given the challenges at hand; the plan is nonetheless being pared down.

It’s possible that stepping outside of a country’s macroeconomic comfort zone will be necessary in an increasingly competitive world.

The average American, for example, might be surprised to know that his or her contemporaries in China now live in cities with newer infrastructure that’s often superior. In order to gain a real edge, though, all of these locales now need to invest more in building greater resilience to the impacts of climate change.

As a climate reporter, it’s been frustrating to watch the legislative debate. By focusing on $3.5T as a big number, it entirely misses the economic context of climate change.

The costs will be astronomical, the losses huge.

Old budgets are not a good baseline.

Here’s why:

— Abrahm Lustgarten (@AbrahmL) October 2, 2021

For more context, here are links to further reading from the World Economic Forum’s Strategic Intelligence platform:

• Beware the risk of “over-optimism.” Sure, when public debt and central bank balance sheets ballooned between the financial crisis and COVID-19, inflation stayed remarkably low – but according to this analysis, downplaying inflation risks could have consequences. (Bruegel)

• For all the talk of “socialism,” President Biden’s plan to spend $3.5 trillion on infrastructure and climate change mitigation would have still fallen well short of social support spending per capita in Western Europe, according to this analysis. (Institute for New Economic Thinking)

• What Ancient Rome can teach us about quantitative easing – the recent inflation rise in places like the UK may just be temporary, but according to this analysis debasing a currency in the manner of Septimius Severus could be disastrous. (Institute of Economic Affairs)

• Advocating for a “green golden rule” – these experts say one way for the EU to increase green public spending while minimizing deficits would be to exempt such investments from debt and deficit rules. (Bruegel)

• Think inflation is a dull topic? What if this analysis told you the value of that money you think is safely stashed in a savings account is probably evaporating right now? (Raconteur)

• The return of inflation as good news; according to this analysis, renewed inflation in the euro area is likely temporary – and is actually making up for many years of falling short of related targets. (OFCE)

• Managing inflation risks during the COVID-19 recovery will be far more challenging in developing countries, according to this piece, because they’re disproportionately exposed to the worsening impacts of climate change. (Project Syndicate)

On the Strategic Intelligence platform, you can find feeds of expert analysis related to Financial and Monetary Systems, the Future of Economic Progress, and hundreds of additional topics. You’ll need to register to view.

The article was originally published in the World Economic Forum. You can view it here.