Central banks in Sweden, Australia, and New Zealand have responded to low inflation by cutting rates even though growth in these three jurisdictions is relatively healthy in absolute and comparative terms.
That may be the wrong approach, according to new research from HSBC economist James Pomeroy.
Pomeroy says that “the rise in the number of digital natives globally will transform the way the world consumes…leading to downward pressure on prices…that could have a huge impact on inflation, growth, and policy”.
So what’s a digital native?
Pomeroy defines them as “those [people] who have spent their entire secondary education in a country with an internet adoption rate above 50%”.
It’s a cabal that represents 9% of the global population now, around 430 million people, and is set to rise to 30%, 2.3 billion, by 2030 and 50%, 5.6 billion people, by 2050.
It’s an economy-changing demographic shift.
But it’s one that is already in train in the Scandinavian countries, Australia and New Zealand where “digital natives” already represent 25% or more of the adult population. It’s a shift that is also rapidly occurring in much of the developed world mired in low inflation.
The focus on Sweden, Australia, and New Zealand means Pomeroy is able to fast forward his analysis of the policy implications from changed consumption patterns, technological change, and lower inflation in these countries where the central banks have cut as a result of low inflation.
But first it’s worth talking about how Pomeroy says this low inflation comes about.
He highlights that, “the adoption of new technologies is higher amongst digital natives” and that this gives them more information which “will lead to lower price pressures”. That will happen through the use of technology and comparison sites, “improved supply chains, increased access to alternative products or new technologies that are cheaper” which in turn should “lead to lower inflation” for any given level of growth than otherwise would be the case.
Pomeroy says “if inflation falls because technology improves, it is not a sign of economic malaise (as consumers will benefit) and cuts in interest rates may not be the answer”.
“Is GDP still a fair measure of growth given the rapid pace of technological advance? Should central banks cut rates due to low inflation, if supply side improvement rather than demand deficiency is the cause?” he wonders.
You can see the headache for central bankers who could take the wrong signal from inflation and what it says about growth in the economy and potential output gaps.
Which gets us back to Sweden, Australia and New Zealand.
Pomeroy cites BIS research which says supply-driven low inflation may require a different response to a traditional demand-driven low inflation scenario. Yet central banks across the globe have cut regardless of the underlying cause of low inflation he says.
“Sweden’s Riksbank is the obvious example, cutting rates down to -0.50% despite the economy growing at the fastest pace in nearly a decade, while Australia and New Zealand have seen rates cut to record lows despite domestic activity holding up,” he says.
“Such a world means that central banks may need to think about a broader range of measures and the underlying causes of low inflation when setting policy,” he says.
The implication of his analysis in the current super low interest rate environment is far-reaching. Pomeroy is effectively saying rates could be too low in these three nations, and potentially in many jurisdictions across the developed world.