JACKSON HOLE, Wyoming- Inflation has tumbled spectacularly across much of the world this year but the job is only half done, even if top central banks are now getting ready to wrap up their most aggressive interest rate hike cycle in history.
The “last mile” in rooting out pervasive price growth is still set to take years, so easing up now appears contradictory to policymakers’ message a year ago that public trust required bringing inflation back to target quickly, even if that meant inducing a recession.
Yet, as global central bankers gather in a mountain lodge in Jackson Hole, Wyoming, for their annual economic brainstorm, talk is shifting to keeping rates around where they are now – but for longer than perhaps previously estimated – rather than raising them further.
The aim would be to ensure a soft landing of the economy even if price growth remains high, possibly throughout 2024.
On the face of it, the shift seems justified, given the striking progress on inflation. Price growth was around 10 percent in much of the developed world late last year and now stands at roughly half that rate, with further drops already baked in.
But this is happening while the job market remains exceptionally tight on both sides of the Atlantic, an economic paradox that is leading some to question if inflation is falling regardless of monetary policy – not because of it.
The labor market was expected to soften, taking pressure off wages but businesses are just not shedding workers as expected, partly because they enjoy still-high margins and for now can afford to retain skilled labor.
“When inflation is falling but unemployment is stable or falling, the Fed can’t be sure that its policies are effective,” said Steve Englander, head of G10 currency research at Standard Chartered. “It may just be lucky that a global demand slump or non-policy related domestic forces are driving inflation lower.”
US unemployment has been flatlining at around 3.5 percent most of this year, and the euro zone rate is at an all-time-low of 6.4 percent . Meanwhile, in places like Britain, Australia or New Zealand, the rate is slightly up from recent lows but still well below historic averages.
The problem is that serious disinflation without a labor market shakeout is inconsistent with standard economics and past experience. US inflation, for instance, has fallen 6 percentage points in the last year from above 9 percent to around 3 percent ; the last time inflation fell by anywhere near as much – in the early 1980s – unemployment soared to above 10 percent .
This disconnect led the German central bank to issue a warning to peers this week that a tough task may still lie ahead for policymakers.
“The impression took hold that inflation rates will nonetheless persist for longer above the rates targeted by central banks,” the Bundesbank said. “In particular, the ongoing high wage pressures could make it harder to press ahead with curbing inflation.”
Yet there is little appetite left to hike rates much further, a feeling that will only grow if measures of economic health deteriorate, as they have in Europe.
