The economy in Europe and the United States is an unusual beast right now. We have full employment, prolonged GDP growth and the stock market is booming. The S & P 500 has passed the 3000 mark, the Dow is at 27,000 and the FTSE 100 at 7530 – all reaching record highs or almost.
Normally, these conditions would require a rate of interest ascend. The economy is expected to overheat, inflation is expected to skyrocket, wages should rise, along with demand, and employers should have trouble finding additional workers and resources to fill their order books.
But the opposite is happening.
The European Central Bank has just concluded that it must "be ready and willing to further ease the stance of monetary policy" after failing, once again, to push inflation to the target level. 2%.
In the US, Federal Reserve Chairman Jerome Powell also announced a rate cut. "There is a risk that low inflation will be even more persistent than we currently expect," he told Congress.
So what's going on? Why do we live in a Bizarro world where a powerful economy generates low inflation and central banks pour more and more money into a market on fire?
The old relationship between employment and inflation is broken
The representative of the United States, Alexandria Ocasio-Cortez, has proven to be a surprisingly prolific debates generator on the fundamentals of the economy.
"Unemployment has fallen by three points since 2014, but inflation is not higher today than it was five years ago," she said. she said at a hearing before the US Congress with Fed President Jerome Powell. [see mark 2.06.30].
"The economy can withstand much lower unemployment rates than expected, without causing worrying inflation," Powell said.
This is basically the title: inflation no longer exists.
We should live in the Weimar Republic. But we are not.
Inflation is gone.
Even 10 years of interest rates close to zero no longer generate consumer price increases. Textbooks from the early 2000s indicated that we should live in the Weimar Republic, or Zimbabwe. Instead, real estate prices in London have been in decline since more than a year.
Inflation has been resolved. We solved it thanks to our new inventions.
Spotify makes music cheaper. Uber makes taxis cheaper. Google makes the information cheaper. Facebook makes advertising cheaper. Amazon makes buying cheaper. The market economy makes wages cheaper.
The macro effect of all this "resolution" is a permanent pressure on prices, which is good for workers who do not want their wages to be eaten up by inflation (but which is unfavorable for those who want a rise in nominal wages).
The idea that inflation is extinguished is not obvious
In a note to clients last week, Rob Subbaraman and Andrew Ticehurst, analysts at Nomura, said: "The big central banks seem trapped in an era of extremely loose monetary policy. Low interest rates for an exceptionally long period imply declining returns and rising costs that make it increasingly difficult to normalize monetary policy. "
They feared that the "problem" of low inflation would create "a loop that makes standardization even more difficult".
An environment characterized by low inflation and low interest rates can definitely create problems:
But low inflation also creates opportunities.
In a deflationary world, tax policy – public spending – is more important than monetarism
Governments now have a bigger fiscal space to invest and build.
"In countries with fiscal space, it should be used more forcefully to stimulate sustainable growth, especially for useful spending such as infrastructure, education and R & D. ", said Nomura's Subbaraman and Ticehurst. They are part of a growing noisy group of investment banking analysts who beg governments to wake up and feel the money.
It's time to move on. Not just to create inflation (and avoid deflation, which can be even worse). But to build the energy infrastructure, transportation, defense, health and education we will need for the future. Low-cost debt makes these expenses cheap.
This is a rare and golden opportunity for governments (and an intellectual defeat for conservatives).
Hopefully they will not waste it.