Here are some happy reads from the world’s central bankers tonight. It was provided by Agustín Carstens, the managing director of the Bank for International Settlements, who said the solutions they had relied on for the past few decades were rubbish: (emphasis ours here and elsewhere)

Central banks may also need to reassess how they respond to inflation driven by supply-side developments. These usually trigger relative price changes in the first place. The textbook prescription is to “see through” this type of inflation, because offsetting their effect on inflation would be expensive. But this assumes that the inflation overshoot is temporary and not too large. Recent experience has shown that it is difficult to make such a clear distinction. What’s initially temporary can become ingrained as the behavior adapts if things start out this way and last long enough. It’s hard to pinpoint where this threshold is, and we may only find out after we cross it.

In recent decades, monetary policy frameworks have been based on the idea that central banks can provide stable growth by controlling the level of aggregate demand in the economy. This is achieved by easing or tightening monetary policy. If the economy overheats and inflation gets too high, interest rates could rise — hitting demand in the process. And vice versa, if demand needs a little boost for the economy to reach its potential.

The framework implies that inflation is ultimately a demand-driven phenomenon. Any price spikes caused by supply shocks will be short-lived as investment and government policies adjust to fill the gap.

This view makes sense. That helps explain why the ECB was wrong to raise interest rates in 2011 in response to rising oil prices, only to face a sovereign debt crisis and recession a year later. But what happens when you have a situation like now where supply bottlenecks persist and price pressures start to build?

One consequence is that workers (at least in some parts of the world) start demanding more money:

While we still don’t believe we’re about to see wages get out of hand, it seems unlikely that the price increases we’re seeing will be short-lived.

So what should we do? Well, there is no easy answer. Combining rising interest rates with a cost of living crisis is not a recipe for social happiness. However, persistently high inflation will be worse in the long run. The BIS chiefs have somewhat glossed over the challenges this poses:

The good news is that central banks are aware of the risks. No one wants to repeat the mistakes of the 1970s. Clearly, policy rates need to rise to levels more appropriate for a higher inflation environment.Most likely, this will Requires real interest rates to be above neutral A time with moderate demand.

Of course, no one wants a repeat of that decade’s famous stagflation. Yet the idea that this generation of central bankers can borrow Volcker’s playbook like it’s no big deal is a rant.

Assume that what Carstens refers to as “neutral” means that real interest rates will rise to zero.Well, now that means the European Central Bank has hiked its deposit rate (currently minus 0.5%) Eight percentage point. The Fed needs to raise the federal funds rate by about 7.5 percentage points. On Threadneedle Street, bank rates must soar by more than 5.5 percentage points.

Meanwhile, here what happened Debt level over the past five years:

We said earlier this year that people seem to be ignoring how Real exchange rates are seriously out of sync In line with historical standards, it warns that borrowing costs may have to be much higher than expected. Although we are not central bankers, so it doesn’t matter what we say. For anyone counting on a relatively modest rate hike, Carstens now appears to be promoting the same.

It could be that the debt load is so heavy that smaller moves are enough to stifle enough demand that prices start to fall. Or we could be lucky to see inflation come back down by the end of the year.

The Bank for International Settlements was one of the few institutions that voiced concerns before the financial crisis. At the time, central bankers largely ignored Basel’s warning. But will they do it again if inflation persists? We’re not so sure.