- The rise of technology is going to force fundamental changes to the approach of central banks in the coming years, argues Barclays’ Christian Keller.
- Central banks will almost inevitably move away from their focus on keeping inflation around 2%.
- Instead, they’re likely to look at ensuring financial stability and the distributional effects of monetary policy.
LONDON – Advances in technology and huge shifts in the way society functions mean that the way central banks operate will fundamentally change in the coming years, according to one of Barclays’ most senior economists.
Speaking on Tuesday at the launch of Barclays’ annual Equity Gilt Study, Christian Keller, the bank’s head of economics research, said that major central banks will almost inevitably be forced to move away from their focus on keeping inflation at or around 2%.
“We’re coming to a point whereby there needs to be a rethinking of the current inflation targeting models. They were perfect in the 90s and all the way up to five or six years ago,” Keller told journalists.
“I have doubts whether this will ever come back again. Right now, central banks are very reluctant to talk about it,” he added.
Under the current model of central banking, interest rates are changed to correspondent with rising or falling inflation and economic growth. At the most basic level, rates tend to increase when inflation is rising, while they are kept low during periods of low price growth as a means to try and stimulate activity, pushing up both inflation and growth.
This is very much the case in Australia, where the Reserve Bank of Australia has an official mandate to try and keep inflation between 2% and 3% over the course of the economic cycle.
In the future, however, Keller believes that inflation targets be made more flexible, with banks not so aggressively tied to keeping inflation around 2%.
Central banks will also have a greater remit for areas beyond traditional inflation targeting. Those could include financial stability, and the distributional effects of monetary policy – a policy area that is a a huge talking point among some central bank watchers and economists right now.
“We’ll go to more flexible targets, and move away a little bit from the fixation on inflation. Banks will also have to take into account financial stability, because as we try very hard to reach 2%, we have all kinds of side effects.”
In Australia, the RBA already has a significant role in ensuring financial stability. One of its key mandates is to ensure its powers are “exercised in such a manner” to contribute to the “economic prosperity and welfare of the people of Australia”. This is interpreted as a mandate to ensure financial stability, given that problems in the financial sector can wreck the economy.
However, this trend now looks set to become a more important focus of the RBA and its peers around the world.
Less influence on inflation
One of the reasons for that, Keller said, is that central banks are becoming less and less powerful in their abilities to actually have a significant impact on inflation through traditional monetary policy tools.
Much of that is down to technological developments, he said.
“Increasingly maybe those inflationary developments that we try to hit with domestic interest rates may be driven by global and technological factors that are no longer under monetary policy control.”
There has been a significant debate in recent years about the possibility that big tech companies, the likes of Amazon and Spotify, are creating deflation by drastically decreasing the price of key services.
In particular, Amazon is making the supply and distribution of goods so cheap that “Amazonisation” itself is now a deflationary force at a macro level, according to Nomura analyst Bilal Hafeez.
“Amazon’s unique distribution model and widening range of products could impart a new disinflationary impulse on goods prices,” Hafeez said back in October 2017.
Keller’s thesis is similar, although he did not mention any specific companies.
Ultimately, Keller doesn’t think, in the words of Milton Friedman that “inflation is always and everywhere a monetary phenomenon,” and believes that attempting to keep it at a specific level will become a less and less important form of monetary policy in the coming years.
“The fine tuning of inflation through the inflation targeting regime we’ve been used to in the last 20 years, I don’t think that is necessarily the system of the future,” he concluded.