Ever since the period of ‘stagflation’ in the 1970s, the goal of economists and policymakers has generally been to pursue low and stable levels of inflation. But the economic effects of COVID-19 are prompting some rethinks on the macroeconomic assumptions behind this paradigm.

Under the policy of ‘flexible inflation targeting’, the goal is to control inflation through the raising and lowering of interest rates, occasionally setting aside the focus on interest rates to focus on combating unemployment instead.

This has been the RBA’s playbook, and credit where credit is due, they’ve done an excellent job at achieving the targets they set.

But this inflation-first school of thought faced it’s first challenge in the aftermath of the Global Financial Crisis. In order to stimulate desire and confidence to spend, policymakers cut interest rates and launched Quantitative Easing policies.

But this led to another conundrum in the late 2010s: even though unemployment was low, consumer confidence was also low, and so interest rates also had to remain low, leading to an awkward situation where both unemployment and interest rates were low—a situation that defied conventional wisdom.

And when interest rates are already low, you don’t have a trump card you can rely on to stimulate the economy when unemployment starts to rise—you’ve already played that card.

And that’s when COVID happened.

Supply chains and production have been disrupted across the globe, causing raw material prices to surge. But the real hit has been to consumer confidence: the desire to invest has plunged, and most people are saving, rather than spending.

And now macroeconomists are facing a difficult question: when the only way to stimulate demand is to push inflation below zero, what do you do?