Is there a big, dirty secret that will keep us from figuring out inflation? If there is, it is called debt.
Inflation reduces it, and therefore there is a very powerful lobby that has an unspeakable interest in not crushing price increases: the large debtors of the planet, starting with the states.
A theme that I extract from the Ambrosetti Forum of Villa d’Este-Cernobbio concerns the interest rate scenario.
We are on the eve of new rises by both the Federal Reserve and the ECB. When it comes to an upcoming recession – or a recession that has already begun in fact – monetary tightening is one of the causes that are cited. But what squeeze are we talking about?
For now, interest rates remain largely negativethat is, lower than inflation.
This is true of central bank leading rates, which are a measure of the compensation required to provide credit to commercial banks; also true for government bond yields. For instance, in the United States, short-term (two-year) Treasury bills yield about 3.5%. Those ten years yield just under 3.3%. These interests paid by the Washington Treasury to investors are to be compared with an inflation rate that at 9% annual. The real rate is the return adjusted for inflation. It remains heavily negative, therefore, despite recent rate hikes. (We started from scratch).
The concept of a non-theoretical real rate has important practical consequences. A negative return means that savers are not protected from the erosion of the value of their savings: the returns they receive are not enough to maintain the purchasing power of their money. It means, for example, that many retirees or future retirees are becoming poorer if their savings are invested in Treasury bonds: when they come to maturity, the capital will have devalued.
A negative return generates, at the macroeconomic level, a transfer of wealth from creditors to debtors. And we know that the states are among the biggest debtors. Therefore, despite the rise in the cost of money, states are easing their debt burdens with inflation.
a classic mechanism that operated in other historical periods: inflation decreases the real weight of public and private debts.
The current monetary tightening is actually very little restrictive, at least so far, when compared to what central banks did in the 1980s. to deal with the inflation that had flared up since the two oil shocks of the 1970s. In the 1980s, led by Federal Reserve Chairman Paul Volcker, central bankers managed to restore positive real yields. Today they are far from that goal. To get rates higher than inflation, the Fed and the ECB should continue to operate very robust increases for a very long time. Some of the experts present at the Ambrosetti Forum in Cernobbio think that central banks will not be as determined as they were in the 1980s and will give up raising rates to the level that Volcker would have considered adequate to crush inflation.
Central bankers today will be scared first, ”someone argued. Want to the social consequences of a squeeze that would bring a heavy return of unemployment. (Yesterday the US figure for August was positive, +315,000 jobs, but slowing compared to previous months). Do you want why we live in a world with too much debt, and too much sovereign debt: States have an enormous interest in letting inflation run to reduce the burden of their debts; while an excessively sustained increase in rates would make sovereign bankruptcies more probable (Italy too would enter a phase of great fragility given its level of public debt).
In the 1980s the debt / GDP ratios were a fraction of the current ones.
If these assumptions are true, then we will live a long time with higher inflation than we have been accustomed to in the past 40 years.
In addition to the interest of States in imposing the hidden tax of inflation on savers, three structural factors are added in favoring a scenario of prolonged inflation.
The first the US-China divorce project, that is, of industrial relocation to countries that are geopolitically allied or friends or similar to the West. Even if the divorce were to be only partial (as is realistic), it would probably lead to increases in production costs.
The second inflationary factor are the limits on immigration, which improve the bargaining power of workers in rich countries and thus help raise wages.
The third are energy policies related to climate changewhich are also generally inflationary because the cheapest energy source is coal, all alternatives for one reason or another have higher costs.
September 3, 2022, 09:07 am – change September 3, 2022 | 09:07
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