Beware of fairy tales about inflation

U.S. Inflation Update

The financial market believes in Goldilocks. As they are more concerned about inflationary pressures in the first five months of this year, their current consensus is that price increases in the United States and other advanced economies in the next few years will not be too hot or too cold.

The yield gap between U.S. nominal government bonds and inflation-protected bonds Already settled down Slightly higher than 2% in the next 10 years. As Goldilocks said, this is “just right”, allowing the high-pressure economy to maintain strong employment growth and the gradual normalization of monetary policy.

But reality is more chaotic than fairy tales. In the second quarter, prices rose at a rate not seen in decades. In the U.S, Core inflation rate It rose to 8.1%, the highest level in any quarter since 1982. In developed OECD countries, the quarter’s inflation rate rose to the highest level since 1995. Even in inflation-obsessed Germany, the annualized inflation rate has increased at the fastest rate since the post-unification boom in the early 1990s.

The central bank governor insisted that there is nothing to worry about. They stated that the rise in inflation was “temporary” and added that monetary stimulus is still needed to recover strongly from the coronavirus crisis. They believe that the risk of premature tightening of policies and an overcooling of the economy is worse than the risk of later.

For Japan and the Eurozone, their assessment seems to be valid, because both economies have been plagued by persistently low inflation in the past decade.

More broadly, the consensus among policymakers is also based on some solid evidence of temporary problems in the global economy. A large part of the recent price increase comes from bottlenecks in the global supply chain, especially semiconductors. Increasing the prices of imported goods and domestically produced products, this kind of cost surge will bring new investment in manufacturing plants, and ultimately achieve its own healing. The spread of the Covid-19 Delta variant has slowed the recovery of household spending.

The line chart of the consumer price index (excluding food and energy), chain-on-year (%) shows that core inflation in the second quarter rose to a level not seen in developed countries in decades

However, the broader context in which inflation is controlled is not based on solid foundations similar to those in the United States and the United Kingdom. It is important to understand these assumptions (usually implicit) that support how inflation will behave in the coming quarters. A better point of view.

As we all know, both countries have adopted aggressive fiscal policies after the pandemic began, seeking compensation for companies and individuals who were unable to work properly.This The International Monetary Fund expects In 2021, the US fiscal deficit accounts for 13.3% of GDP, and the UK is not far behind, at 11.7%, which is much more generous than the Eurozone’s 7.9%. According to the International Monetary Fund, combined with Covid-19 restrictions, these high levels of financial support have resulted in higher levels of “excess savings” than most European countries.

Excess savings are not inherently dangerous, especially because consumers in the US and the UK are often criticized for spending too fast. But this does mean that with the decline in the prevalence of the virus, there is a great risk of a surge in private spending. Reassuring predictions depend on whether the officials are correct, that is, the fiscal authorities calibrated the support almost perfectly.As The International Monetary Fund says Regarding its own forecast: “The forecast assumes a smooth transition from extraordinary policy support to private activity-led growth and a gradual reduction in excess savings.”

The fund said that countries with traditionally low savings rates have accumulated more funds, so families there indicate that they may be rebuilding their finances. But the opposite inference—that British and American families traditionally have spare money would spend it—is more reasonable.

The labor market is the second area of ??inflation concerns on both sides of the Atlantic. Change its guidance Last week, the Bank of England stated that it would need to raise interest rates “modestly” over the next three years because it no longer worried about rising unemployment, but to ensure that people get into work smoothly. In the United States, labor market data also show that job vacancy and resignation rates are at record highs, which shows that despite the high unemployment rate, they are still very tense.

Neither the United States nor the United Kingdom has potential wage growth, but it indicates that high inflation will continue. However, if employers continue to need more employees and the hypothetical labor market surge does not materialize, sustained wage and price increases will be the result.

These considerable risks in the balance of supply and demand arise when the ageing of China’s labor force indicates that it will not become a force of global deflation as before, and the retirement of baby boomers will gradually further change the balance of consumption in advanced economies.

None of this indicates that we are moving towards the wage and price spiral of the 1970s, but it does point to a future in which we need to worry more about inflation than in recent years.

Mistakes are likely to occur and should be expected. The fact that financial markets expect the authorities to make perfect judgments on matters is itself a cause for concern.

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