Low inflation is one of the defining features of advanced economies in the current decade.
Michael S. Hanson, global economist at Bank of America Merrill Lynch, has produced this chart which shows just how pervasive low inflation is around the world.
With central banks having dropped rates to zero around the world, or lower, and engaged in huge quantitative easing programs, the continuing low inflation picture is starting to raise ever-tougher questions about whether this is a cyclical problem that policymakers can eventually address by persisting with stimulus through rate cuts and asset purchases, or something more structural and troubling.
Here’s an excerpt of Hanson’s commentary, with my emphasis added:
All of this discussion of new targets and new frameworks seems increasingly beside the point for some market participants. Simply saying you are even more determined to get inflation back to target does not make it any more likely in the eyes of the markets. And the fact that models imply a return to target over time is wholly unconvincing to them, whatever the historical data or empirical fit may imply.
Specifically, some commentators argue that inflation is, in effect, not a monetary phenomenon at all, but structural. They see deflation as the new norm thanks to chronic overcapacity, aging demographics and disruptive technologies. The implication is that central banks may never get back to their inflation targets (or any other target in some alternative framework), regardless of what level they are set at, as the central banks lack the tools to address these structural issues.
A few central bankers seem to echo this sentiment, talking as if recent inflation trends are largely outside their control. This is eerily reminiscent of central bankers abrogating responsibility for higher inflation in the 1970s, blaming “special factors”. That action then led to inflation expectations becoming unhinged to the upside; the mirror risk today is too timid of accommodation, due either to an unwillingness or inability to provide sufficient easing, will lead inflation expectations to become unhinged to the downside, reinforcing a deflationary psychology. The good news is that there is limited evidence that this is occurring; the bad news is that one cannot readily rule it out.