Uncertainty reigns on the frontlines of the inflation battle

Uncertainty reigns on the frontlines of the inflation battle

When prices began to rise in many countries around the world about two years ago, the word most associated with inflation was “floating”. Today, the word is “perseverance.”

This was reiterated this week at the European Central Bank’s 10th Annual Conference in Sintra, Portugal.

Federal Reserve Chairman Jerome H. Powell said, “It is astonishing that inflation has persisted.”

“We have to be as persistent as inflation,” said Christine Lagarde, president of the European Central Bank.

The latest inflation data in Britain “shows clear signs of stabilisation”, said Andrew Bailey, governor of the Bank of England.

Policymakers from around the world gathered with academics and analysts to discuss monetary policy as they try to tame inflation. Collectively, they sent the same message: interest rates will remain high for some time.

Even though inflation is slowing, domestic price pressures remain strong in the United States and Europe. On Friday, data showed inflation in the eurozone slowed to 5.5 percent, but core inflation, a measure of rising home prices, rose. The challenge for policy makers is how to meet their target of 2 percent inflation, without going overboard and pushing their economies into recession.

It is difficult to judge whether a turning point has been reached and policymakers have done enough, said Claire Lombardelli, chief economist at the Organization for Economic Co-operation and Development and former chief economic adviser to the British Treasury. “We don’t know yet. We still see core inflation rising.”

The tone of the conference was set on Monday night by Gita Gopinath, the first deputy managing director of the International Monetary Fund. In his speech, he said there is an “inconvenient truth” that policymakers need to hear. “It is taking a long time for inflation to get back on target.”

And so, he said, interest rates should be at a level that should constrain the economy until core inflation turns down. But Ms. Gopinath had a more troubling message to share: The world will likely face more shocks, more often.

“There is a substantial risk that the more volatile supply shocks of the pandemic era will continue,” he added. Production costs will increase with countries cutting global supply chains to move production home or to existing trading partners. And they will be more vulnerable to future shocks because their concentrated production will leave them less resilient.

The conversation at Sintra kept returning to all the things economists don’t know, and the list was long: Inflation expectations are hard to understand; Energy markets are opaque; Monetary policy seems to be slowing down on the economy; And there is little guidance about how people and companies will respond to frequent large economic shocks.

There were also many complaints to the Ministry of External Affairs about the inaccuracy of previous inflation forecasts.

“Our understanding of inflation expectations is not accurate,” Mr. Powell said. “The longer inflation remains high, the greater the risk of inflation permeating the economy. So the passage of time is not our friend here.”

Meanwhile, there are indications that the impact of higher interest rates will take longer to be felt on the economy than previously thought. In the UK, most mortgages have Rates that are fixed for short periods and hence reset every two or five years. A decade ago, it was more common to have mortgages that fluctuated with interest rates, so homeowners felt the effects of higher interest rates immediately. Because of this change, “history won’t be a great guide,” Mr. Bailey said.

Another poor guide has been prices in the energy markets. Wholesale energy prices have been the driving force behind headline inflation rates, but rapid price changes have helped mislead inflation forecasts. A panel session on energy markets reinforced economists’ concerns about how insufficient information they have about something that heavily affects inflation due to a lack of transparency in the industry. a chart on Mega-profits of commodity-trading houses The past year has made the eyes of many in the room widen.

Economists are writing new economic models, trying to quickly respond to the fact that central banks consistently underestimate inflation. But some degree of damage has already been done, and there is a growing lack of confidence in the forecasts among some policymakers.

The fact that central bankers in the eurozone have agreed to be “data-dependent” – making policy decisions based on available data at each meeting, and not taking premeditated action – shows that “we can no longer make our decisions”. We don’t trust the models enough to base their GDP growth on, at least most models,” said Pierre Wunsch, a member of the ECB’s governing council and the head of Belgium’s central bank. “And that’s because we’ve been wondering for a year and a half.”

Given all that central bankers are not aware of, the dominant sentiment at the conference was that a tougher stance on inflation is needed with higher interest rates for a longer period of time. But not everyone agreed.

some argued Previous rate hikes would have been enough to reduce inflation, and further increases would inflict unnecessary pain on businesses and households. But a vocal minority argued that central bankers may feel compelled to act more aggressively to fend off attacks on their reputation and credibility.

“Chances are they’ve already done a lot, Erik Nielsen, economist at Unicredit, said of the European Central Bank. This, he said, is probably due to waning confidence in forecasts, leading to a focus on past inflation data.

“It’s like driving a car and someone painted your front screen so you can’t see ahead,” he said. “You can see only from the rear window what was the inflation last month. It will probably end with you in the ditch.”

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