Alternative policy options for combatting a downturn

Abstract

▀ With limited scope for conventional monetary policy options, central banks and governments may need to turn to alternative approaches to combat slowing global growth and respond to economic shocks. ▀ Our analysis shows that not only do governments in advanced economies have limited room to cut rates but that doing so has proved less effective in boosting growth in recent years. This increases the need to look at alternatives, such as negative interest rates, renewed QE and fiscal stimulus. ▀ While negative interest rates have helped reduce borrowing costs in some economies, the impact on banks has been ambiguous. Also, lowering rates further into negative territory could be hard without incurring significant costs. ▀ QE in the form practised up to now is also likely to be less effective than in the past due to low yields, narrow risk spreads and high asset valuations. So, a deeper downturn might require more radical QE ‐ buying corporate bonds, bank loans and equities ‐ which comes with significant drawbacks. ▀ Some central bankers are starting to acknowledge the limits of monetary action, with the next step being to consider fiscal action as a more effective alternative ‐ as argued recently by the likes of Larry Summers. ▀ In our view, fiscal policy is likely to be especially effective in a climate of weak growth and low rates, with large multiplier effects. Advanced economies have more scope for fiscal stimulus than often recognised and could finance a large public investment programme by issuing ultra‐cheap long‐dated debt