Draghi's lesson at MIT: “Inflation will last longer than expected. The global challenges are numerous, but we will overcome them”

Draghi's lesson at MIT: “Inflation will last longer than expected.  The global challenges are numerous, but we will overcome them”


Extraordinary challenges require equally extraordinary answers. Now it is the flare-ups in prices that are frightening, but the central banks "will be able to bring the inflation rate back to their objectives". Albeit with difficulty. It is a Mario Draghi with a positivist message who spoke at the Massachusetts Institute of Technology (MIT) on his first trip to the US after the end of his term as prime minister. The global challenges are high, starting with the Russian invasion of Ukraine and the role of China. And this is why, according to Draghi, a unified response from governments, states and institutions is needed. Starting from Europe.

He could only choose the university where he defended his doctorate for his first public outing in the United States since the last bell exchange with Giorgia Meloni. At the Sloan School of MIT they welcome him as "Supermario" to receive the Miriam Pozen Prize. They consider him as a person who is "at home". And thanks to this naturalness, Draghi was able to joke and talk about the precarious geopolitical and macroeconomic situation. In the end, he is sure, «the central banks will be able to bring the inflation rate back to their goals." However, he told the audience at the MIT Golub Center for Finance and Policy, "when the long-term consequences of the war become visible, the economy will be very different from what we have been used to." This is because a protracted conflict between Russia and Ukraine and continued geopolitical tensions with China "will continue to weigh on the potential growth rate of the global economy". Furthermore, "the desire to ensure that supply chains are resilient to geopolitical shocks means that countries will be more willing to purchase goods from reliable and like-minded suppliers, even if they are not the cheapest, and to invest in repatriating critical production back home.'

According to Draghi, the so-called "reshoring" will lead to a "certain increase in capacity in Western economies, but not necessarily of the scale and efficiency necessary to ensure that inflation remains as low as in the past". In other words, this process of bringing productive activity home may keep prices higher for longer than central banks and governments can now think. At the same time, Draghi stressed, it is easy for executives to register "permanently higher budget deficits". And then the awareness: «The challenges we face – from the climate crisis, to the need to support our critical supply chains, to defence, especially in the EU – will require substantial public investments that cannot be financed only through increases in taxes". These higher levels of public spending, explains the former ECB number one, "will exert further pressure on inflation, in addition to other possible shocks on the supply side deriving from energy and other goods". For this reason, Draghi recalled, in the long run "it is probable that interest rates will remain higher than they were in the last decade". At the same time, “low potential growth, higher rates and high post-pandemic debt levels are a volatile cocktail – and inflation-tolerant central banks will not be the solution.”

With this in mind, central banks «must certainly be very aware of their impact on growth, so as to avoid any unnecessary pain. But the task will mainly fall on governments to reshape fiscal policies in this new environment. They will have to learn, he underlines, "to live again in a world where fiscal space is not infinite, as seemed to be the case when growth rates substantially exceeded borrowing costs". In this sense, it will be much more important to pay attention to the composition of fiscal policy. Which will have to be prudent and cannot be libertine as in the era of low if not negative rates. Fiscal policy must, according to Draghi, be designed to "increase potential growth, while protecting and including those who need help most". But this picture "could change dramatically if a wave of powerful innovations, such as AI, were to shake the world and boost global growth." Although it is difficult to foresee all the implications of such an event, one thing is clear according to the Italian central banker: «Governments, states and institutions must respond proactively to ensure the inclusion and protection of all those who would be affected negatively from these developments. The challenges are numerous, and only with cooperation and cohesion can they be overcome.

Europe, says Draghi, "will have to face unprecedented supranational challenges". The EU, he concedes, “has been in many ways at the center of the globalization experiment, but to consider the creation of the single market and the euro only as an extension of this process would be a partial reading. The project has always been more ambitious». And again on the European front, the former Prime Minister recalled that the EU was "exceptional in two important dimensions". The European social model has ensured "a more solid safety net for those who have fallen behind the rest of the world". And the EU, he admitted, "had strong collective rules and institutions which, although imperfect, guaranteed greater protection against the collateral effects of the free market". But the EU, Draghi pointed out, "was not designed to exploit the economic clout in military and diplomatic power". And this is why the European response to Russia represents "a watershed". The war in Ukraine, "as never before", he said, demonstrated the unity of the EU "in defending its founding values, going beyond the national priorities of the individual countries". This unity, he underlined, "will be crucial in the years to come". A message to both today's and tomorrow's governments.



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