Monetary policy: Low inflation is a choice

IN ADVANCE of the publication of their much anticipated book “House of Debt” in May, economists Atif Mian and Amir Sufi have begun blogging. The work they have done on debt and recovery over the past few years has been hugely important and influential, and their blog has quickly become a must-read. So it is a little unfair that my first mention of it here is to pick at one of their recent posts.The authors post a nice image of inflation falling ever farther behind a 2% trend from 2000, and they write:The Federal Reserve directly controls the short-term interest rate. But what it really tries to target is inflation and its expectations. The Fed’s goal is to achieve the target of 2% inflation in the long-term, and its preferred price index is the core personal consumption expenditure price index that excludes the volatile food and energy sectors (or core PCE for short). So how has the Fed performed in achieving its target of 2% inflation in the past 15 years?The chart above plots the implied core PCE index if inflation had met its 2% target (red line), and the actual core PCE index (blue line) starting from 1999. The blue line is consistently below the red line, the gap has only diverged further since the Great Recession. The cumulative effect is that today the price level is 4.7% below what it should have been had the Fed achieved its long-run target…What we are witnessing …

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Inflation and interest rates: Up, up and away

UK Only Article: 
standard article

Issue: 

Rise of the robots

Fly Title: 

Inflation and interest rates

Rubric: 

Higher inflation may be needed to leave extra-low interest rates behind

Main image: 

20140329_FND001_0.jpg

AT FIRST glance, rich-world central banks are going their separate ways. Cheered by sturdy growth figures, the Bank of England and the Federal Reserve are shuffling toward an exit from easy monetary policy; markets found Janet Yellen’s first Fed statement unexpectedly hawkish. The European Central Bank, in contrast, is tacking looser. On March 25th Jens Weidmann, president of the Bundesbank, suggested that the ECB might need to be more forceful in order to keep the euro-area economy out of the grips of deflation.

Look again, however, and the path forward appears similar across the rich world: low interest rates stretch off into the visible distance. The outlook is clearest in Europe, where the ECB may toy with negative rates as a means to fend off deflation. But even in America …

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Latin America’s economies: Life after the commodity boom

UK Only Article: 
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Issue: 

Rise of the robots

Fly Title: 

Latin America’s economies

Rubric: 

Instead of the crises of the past, mediocre growth is the big risk—unless productivity rises

Location: 

LIMA

Main image: 

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ONE morning last month Louis Dreyfus, a big commodity-trading house, formally opened a new $10m storage depot in the Peruvian port of Callao. Two of its six bunkers were piled high with 55,000 tonnes of fine brown dust covered by white tarpaulins—copper and zinc concentrate, awaiting blending and shipment. The warehouse is “a bet that Peruvian mining will continue to be competitive,” says Gonzalo Ramírez, a Dreyfus manager. That looks like a sound wager. Blessed with high-grade ores and cheap energy, Peru’s output of copper—already the world’s third-largest—will more than double in the next three years (see article), thanks to the opening of several low-cost mines.
But rather than …

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Quantitative easing: Turning over a new leaf?

The mood towards unconventional monetary policy in Europe is changing—but only very slowlyNORDIC and Germanic opposition to unconventional monetary policy is crumbling, so it seems. On March 25th, in interviews with Market News and the Wall Street Journal, two of the more hawkish members of the European Central Bank’s governing council hinted that further monetary easing may be on the cards for the euro area. The euro obligingly sank on foreign-exchange markets.First, Jens Weidmann, president of the German Bundesbank, told Market News that quantitative easing was no longer “out of the question”, having previously ruled it out as a legitimate policy tool for the ECB. Then, Erkki Liikanen, Governor of the Bank of Finland, also seemed to open the door to this type of policy. He told the Wall Street Journal that, even with interest rates at 0.5%, “we haven’t exhausted our manoeuvering room” on monetary policy, and that “the question of negative deposit rates, in my mind, isn’t any longer a controversial issue”.Other members of the ECB’s governing council also seem to be more open to using a more unconventional range of policy tools. Jozef Makuch, the governor of the National Bank of Slovakia, said yesterday that quantitative easing was one option being considered, and said that there was growing support for reflationary policies: “Several policy makers are ready to …

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Financial stability: Leaning, then toppling

IF YOU want to know why the Federal Reserve is undershooting both its inflation target and its maximum employment mandate, cast your eye toward Jeremy Stein. Mr Stein is a Harvard economist and Fed governor. And since assuming his role at the Fed in 2012, he has led the intellectual charge within the Federal Open Market Committee to place more emphasis on financial stability as a monetary policy goal. For a glimpse of Mr Stein’s handiwork, have a look at his most recent speech, where he says:I am going to try to make the case that, all else being equal, monetary policy should be less accommodative–by which I mean that it should be willing to tolerate a larger forecast shortfall of the path of the unemployment rate from its full-employment level–when estimates of risk premiums in the bond market are abnormally low. These risk premiums include the term premium on Treasury securities, as well as the expected returns to investors from bearing the credit risk on, for example, corporate bonds and asset-backed securities. As an illustration, consider the period in the spring of 2013 when the 10-year Treasury yield was in the neighborhood of 1.60 percent and estimates of the term premium were around negative 80 basis points. Applied to this period, my approach would suggest a lesser willingness to use large-scale asset purchases to push yields down even further, as compared with …

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Labour markets: Too cheap to replace

JASON DOUGLAS grabs a chart from a presentation by Ben Broadbent (soon to be a deputy governor at the Bank of England), which shows wage earners in Britain capturing a much larger share of national income than those in America.

Mr Douglas writes:Why might this divergence have occurred?…One possible explanation, according to economists, is that companies in the U.S. pruned their workforces more severely when the downturn hit than British firms did. British bosses, faced with higher layoff costs and wary of losing skilled staff as they did in previous recessions, decided to keep as many workers on as they could and take the hit instead to their bottom line. U.S. unemployment peaked at 10%; in the U.K. it never rose above 8.4%. The result was that workers’ share of the pie increased and the chunk going to profits declined.Well, now wait a moment. The chart clearly shows that Britain’s wage share tracked America’s closely right up until the recent recession. So one should ask what was uniquely different about the British and American experiences in this recent period. Labour-market rules? Appreciation for skilled labour? Neither seem likely candidates. But what about inflation? Since the beginning of the recession, annual British inflation has averaged 3.1%, to 1.8% in America. That’s a pretty big difference, which has generated a very large corresponding divergence in …

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Fannie Mae and Freddie Mac: Deconstruction delays

UK Only Article: 
standard article

Issue: 

The new world order

Fly Title: 

Fannie Mae and Freddie Mac

Rubric: 

A flawed reform of America’s housing-finance market

Location: 

NEW YORK

A RARE area of agreement about the financial crisis of 2008 is that Fannie Mae and Freddie Mac were at the core of the meltdown and are in urgent need of reform. On March 16th the leading Republican and Democratic members of the key Senate Banking Committee belatedly released a plan for restructuring the two publicly traded mortgage giants.
The plan has received widespread attention in part because it appears to address the most evident problems of Fannie and Freddie and because it is deemed likely to be approved by Congress. Yet neither of these assumptions, on deeper examination, seems to be true.

To satisfy those who want low-priced mortgages on terms that private markets would never endorse, the plan makes explicit the government guarantee on debt which had been implicit for Fannie and Freddie. This would lower the …

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Buttonwood: Peering into the entrails

UK Only Article: 
standard article

Issue: 

The new world order

Fly Title: 

Buttonwood

Rubric: 

Downbeat signals from the markets

ARE financial markets useful indicators of how an economy is about to perform? If they are, then they are not telling an upbeat story. This year equity markets are flat-to-lower, government-bond markets are up and, as for commodities, the “wrong” raw materials are falling in price.
Economists have adopted some financial variables for their soothsaying efforts. In America, for example, the composite leading indicator uses, among other things, the change in the S&P 500 index and the spread between short- and long-term interest rates.

The theoretical link between markets and economies runs like this. When an economy expands, spare capacity starts to shrink. This puts upward pressure on wages and prices of raw materials as companies compete for resources. As inflation picks up, bond yields rise and the spread between short- and long-term rates widens. Profits rise rapidly in the first stages of recovery; the corporate sector has a high …

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Markets, inequality and monetary policy: The rich are different

CENTRAL banks have had an enormous impact on financial markets in recent years – both directly (their purchases of assets through quantitative easing) and indirectly. Mario Draghi’s “whatever it takes” comments in 2012 helped to avert an immediate crisis in the Spanish and Italian bond markets; more generally, low interest rates have encouraged investors to shift out of cash and into risky assets, particularly equities.But this creates some dilemmas for central bankers, as Mark Carney of the Bank of England acknowledged in his Mais lecture yesterday. Central bank policy has always involved a trade-off; even under the gold standard, central banks had to balance their commitment to a sound currency with their responsibility for safeguarding the financial system. When Barings collapsed (the first time) in 1890, the Bank supported the domestic banking system but had to borrow gold from abroad to do so.The modern financial regime, which was really inaugurated by Paul Volcker, places central banks at the heart of economic policy. They have largely been successful in controlling consumer inflation. The trickier question is whether their role in safeguarding financial stability has been counter-productive; too much intervention to rescue financial markets led to an increase in risk-taking, and thus contributed to the crash of 2007-08. The analogy is with forest fires; if all fires …

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Juggling Work And Motherhood On A Shoestring Budget

Millions of families under the poverty line are headed by single mothers, like Katrina Gilbert. She’s featured in the new HBO documentary Paycheck to Paycheck. She shares her story.

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