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Why central bankers disagree on how to deal with inflation

Once upon a time, central banks knew what they needed to do to deal with inflation. As they tackled the economic impact of the coronavirus pandemic, consensus on the best way to promote low and stable price growth broke down.

After years of setting interest rates based on inflation expectations and trying to reach the target of about 2%, major financial authorities around the world are pursuing a variety of strategies.

OECD Warned this week “Be wary,” but attempts to raise interest rates should be “state-dependent and guided by sustained improvement in the labor market, signs of sustained inflationary pressure, and changing fiscal policy stances.” It can be said that it meets the standard.

The US Federal Reserve is I changed my posture The European Central Bank has been continuously involved in whether it should be more tolerant of inflation overshoots in order to give more room for inflation and prioritize employment, and the Bank of Japan expects consumer prices to rise. Fighting to revive.

Inflation: A new era?

Prices are rising in many major countries. FT finds out if inflation has returned completely.

DAY 1: Developed countries have not faced rapid inflation in recent decades. Will it change soon?

Day 2: The central bank’s global consensus on the best way to promote low and stable inflation has collapsed.

Day 3: Coal Mine Canary for US Inflation: Used Cars.

Day 4: How the virus confuses official inflation statistics.

Day 5: Why rising prices in developed countries are a problem for developing countries in debt.

The shift in US strategy was the most radical. Last year, Fed Chairman Jay Powell announced a new financial framework.

The Fed’s creed aims to move away from decades of preemptive interest rate hikes to avoid potential inflationary pressures while pursuing full employment more patiently.

This allows inflation to exceed the 2% target for some time after a long-term undershoot, in order for businesses and businesses to expect long-term low interest rates and ensure consumption rather than savings. Will be. One of the Fed’s motives is not to repeat its stance when policy tightening delays recovery after the financial crisis.

“I am paying attention to the risks on both sides of this expected path.” Lael Brainard said, Fed Governor on Tuesday. Not only did she “carefully monitor” inflation data to make sure it didn’t develop in the “undesirable direction,” she said, “attention to the risk of undoing too soon,” she said before the pandemic. “Low equilibrium interest rate” [and] “Low levels of trend inflation” were “likely to be reaffirmed.”

But critics are concerned that the Fed’s strategy was designed for a world of prudent fiscal policy, not a pandemic. Huge debt and spending, And if price pressure rises, this indicates that it may be left behind the curve.

Friday’s annual growth rate is 3.1% Core consumer spending The index has strengthened some of those concerns.

The Bank of Japan has pursued an inflation overshoot commitment for the past five years, but has not yet approached its target of 2%. Surprisingly, there has been little change after the pandemic. Inflation is nowhere The outlook is clear and spending growth is slowing.

Japanese households and businesses are confident that inflation will remain near zero, making it nearly impossible for the Bank of Japan to reach that goal.

In a recent speech by the Bank of Japan’s governor, Haruhiko Kuroda, “The formation of inflation expectations in Japan is greatly influenced not only by the inflation rate observed at that time, but also by past experiences and norms developed in the process.” Stated.

On the other hand, the policy makers in the euro area Fierce debate For the ECB to carry out its own policy review. Results will be announced in September.

Line chart of annual inflation (%) showing that central banks are tackling price pressure

Olli Rehn, a member of the council as president of the Central Bank of Finland, recently said: “From an economic and social welfare perspective, it makes sense to accept a period of time. [inflation] An overshoot that takes into account the history of undershoots. “

However, ECB Secretary-General Isabel Schnabel warned that it was dangerous. Schnabel said last month that central banks shouldn’t overreact, If inflation goes too far After the downturn, she is “skeptical” about officially targeting average inflation over a period of time.

“How long do you need to calculate the average? How far should you tell it?” She asked. “Personally, I don’t think we should follow such a strategy.”

For some economists, these disagreements are off the mark. Monetary policy has been overextended and central banks lack effective tools to do more.

Richard Burwell, head of macro research at BNP Paribas Asset Management, said the ECB was nearly “ammunition shortage” and inflation in the euro area in May was close to the target of 2% but less than 2%. He said he needed ambitious fiscal policy, albeit slightly above the target. If you’re lucky, you can do so for a long time.

“Unless a large fiscal stimulus package like Biden is implemented in Europe or the headwinds of backinflation suddenly disappear, the amount of monetary stimulus needed to raise inflation above 2% … It’s far beyond what they can do, “he said.

Line graph of central bank policy rate (%) showing that interest rates in developed countries have fallen to zero

This will force the Fed to make difficult choices in the coming months.Inflation in the US Overshoot the targetDemand is rampant and you need to decide whether to brake slowly.

Policymakers are ready to start discussions to reduce support, but shake off the new policy framework, arguing that recent inflation is likely to be temporary rather than sustainable. No sign.

Last week, Fed Vice-Chair Randal Quarles designed the framework for the current world of “slow labor force growth, lower potential growth, lower potential inflation, and thus lower interest rates.” Said it was done.

“I’m not worried about going back to the 1970s,” he said.

Why central bankers disagree on how to deal with inflation

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