It's Wednesday and I have comments on a few items today. I haven't been able…
Last week (January 20, 2022), Eurostat released the latest inflation data – Annual inflation up to 5.0% in the euro area – which followed the release from the US Bureau of Labor Statistics data (January 12, 2022) – Consumer Price Index Summary , the latter, which shocked people, given that it recorded an annual inflation rate of 7 per cent before seasonal adjustment. The Euro area inflation rate over the same period was published as 5 per cent. It is obviously hard to see clearly through the data trends given the amount of pandemic noise that is dominating. But I stand by my 2020 assessment (updated several times since) that we are still seeing ephemeral price pressures as a result of the massive disruption the pandemic has caused to production, distribution and transport systems. In a sense, I am surprised the inflationary pressures have not be greater.
The following graph shows the evolution of the All Groups harmonised price index and the so-called ‘core’ measure (which excludes volatile items such as energy, food, alcohol and tobacco) from the measure, which is designed to give a more stable view of the underlying price pressure.
The lines are annual rates of change (per cent).
The annual All Groups (headline) rate is 4.96 per cent in December 2021, after being 1.22 per cent at the start of the pandemic (January 2020).
However, the All Groups less volatile items (core) was just 2.62 per cent in December 2021, having been 1.09 per cent at the start of the pandemic.
The larger factor driving the All-Groups index is energy prices, which rose by 26 per cent over the year. For Europe, this was mainly the result of reductions in the gas supply from Russia.
Food and industrial goods are rising at around 3 per cent per annum (and some of that is the energy price impact on costs).
If we examine the rate of acceleration in the indexes (the changes in the rate) then over a two-year period (since the pandemic began), the All groups rate is 3.64 per cent but the Core rate is 1.32 per cent.
And this is with the ECB buying almost all of the public debt issued since the pandemic and government’s spending a little more freely than before to deal with the health issues.
The assessment is that the Euro experience is not signalling a massive regime shift towards accelerating inflation.
If you think of the propagating mechanisms that might institutionalise these pandemic-driven price spikes – for example, wage pressures – then you would not find them operating in Europe at present.
Another interesting aspect of the movement in prices is the impact of government charges.
In research I have done in previous years (a while ago), I found for Australia that significant movements in the price level (CPI) are driven by government price impacts – the so-called administered prices, which include things like indexed health care charges, indexed utility charges etc.
Eurostat’s – Methodology Manual – explains that:
Administered prices (HICP-AP) are analytical indices that provide a summary of the development of product prices that are directly set or influenced to a significant extent by the government.
The next graph compares the annual rate of inflation for All-Groups and the Administered prices.
Since the pandemic began, the All-Groups index has risen 5.75 points, while the Core index has risen 4.64 points. However, the Administered pricing index has risen by 5.96 points, above the overall index movement.
We also see that the government charges impact has regularly been higher as indexation arrangements chime in.
I expect the Administered price impact to fall a little in the January 2022 data as a result of the expiration of the impact of the increase in the German standard VAT rate which on January 1, 2021 was increased to 19 per cent after being reduced to 16 per cent between July 1, 2020 and December 31, 2020.
The December 2021 observation is the last impacted by that adjustment. My estimates are that it will reduce the Core inflation measure by between 0.35 and 0.4 points.
What about those propagating mechanisms?
First, there is no evidence that the European Union economies are being over-stimulated.
The latest IMF – Fiscal Monitor (October 2021) – provides estimates of the primary fiscal balance for government from 2012 to the forward-estimates period of 2026 – shown in the following graph.
The austerity mindset is still evident.
Prior to the pandemic the Eurozone Member States together were running primary fiscal surpluses and their response to the pandemic has been much more muted than the other advanced nations.
Further the estimated degree of fiscal retrenchment shown in the forward estimates suggest there is no chance that government deficits will drive accelerating inflation.
Further, the stimulus that has been received over the course of the pandemic will dissipate and cannot drive an inflationary process.
Stay tuned for a resumption of the Excessive Deficits Mechanism, which will further suppress the capacity of governments to add to the inflationary pressure via fiscal deficit expansion.
One also needs to consider the other components of aggregate spending.
And for Europe, the on-going and large trade surpluses are clearly a policy priority and have resulted, in part, from governments (particularly the Northern states) deliberately suppressing the capacity of domestic demand to growth.
Wages growth has been deliberately suppressed to maintain international competitiveness, which means household consumption expenditure is not about to fly away any time soon.
Second, those supply bottlenecks.
The next graph shows the All-groups and Core measures (indexed to 100 in January 2020) and the Producer-price index (from Eurostat).
Between January 2020 and November 2021, the All-groups index rose by 9.9 points, the Core index by 7.7 points and the Producer-price index by 20.1 points.
This is the pandemic effect.
It is not being driven by fiscal or monetary policy settings.
Various essential inputs to production have been in constrained supply – timber, semi-conductors – etc and that supply constraint coupled with difficulties in actually shipping freight around the world have led to these temporary price rises.
Once the pandemic eases and these prices get back to some sense of normality then the inflationary impacts will disappear.
The ECB published an interesting piece of analysis in its Economic Bulletin (issue 6, 2021) – The impact of supply bottlenecks on trade.
They conclude that:
1. “Shipping disruptions and input shortages are leading to considerable bottlenecks in global supply chains” – so goods getting stuck in places they shouldn’t be.
2. “During the recovery phase of the coronavirus (COVID-19) pandemic, households increased their purchases of certain products, such as electronics and home improvement equipment, which caused a stronger-than-expected surge in demand, especially in some sectors” – so a pandemic-driven and specific shift in the composition in spending.
I showed how this impacted on the inflation rate in the US in this blog post – Central banks are resisting the inflation panic hype from the financial markets – and we are better off as a result (December 13, 2021).
3. “coronavirus outbreaks in ports, accidents at plants and adverse weather conditions, led to bottlenecks in the transport sector and caused shortages in specific inputs such as plastics, metals, lumber and semiconductors” – hence the rise in producer prices.
4. “As inventories fell at the onset of the pandemic owing to the running-down of stocks and shortages of inputs resulting from closures and conservative inventory policies, companies struggled to keep up with the swift rise in demand and the replenishing of depleted stocks” – and some firms, with market power took advantage of this situation to maintain profits via higher prices.
5. “Overall, in June the global PMI suppliers’ delivery times index dropped to an all-time low (meaning longer delivery times) since records began in 1999.” (June 2021) – which means that shortages were prolonged.
6. The ECB estimated the “impact of supply bottlenecks on export growth beyond the role played by demand conditions” to be worth around 6.7 per cent in euro area exports and 2.3 per cent globally. That impact is substantial.
Then we come to the debate about regulation.
It is quite obvious that some large firms which can exercise market power (that is, increase prices and maintain sales) are taking advantage of the supply constraints to gouge increased profits.
This situation is not unlike what happens in times of major conflicts, for example, which is why governments introduced various regulations (rationing, price controls) to prevent that sort of predatory behaviour.
Already, the Hungarian government has frozen prices on some food items (sugar, flour, cooking oil, milk products) to reduce the capacity of corporations to take advantage of the supply shortages.
I note, of course, that the government is up for reelection this year!
Finally, when one considers all these issues, one is left wondering why economists are calling for hikes in interest rates.
We know why?
Because they are ‘one trick ponies’ and have been indoctrinated to think inflation -> monetary policy -> interest rates.
The world has moved on from this obsession with monetary policy dominance.
But think about it for a second.
With spending in danger of falling as governments retrench their stimulus support, with household consumption and business investment spending mute, awaiting more certainty in the future, and exports down due to supply constraints, how does anyone come to the conclusion that making it more costly to borrow money for investment will help.
And how does increasing interest rates, speed up ships, reduce the number of workers in the transport system who are ill from Covid, make ports work more quickly when there are not enough containers available (as they are in wrong ports), improve the weather to stop natural disasters impacting on timber supplies and we could go on?
We just need to be patient and concentrate on getting over the pandemic and then the inflationary pressures will ease fairly quickly.
When I say that I think the inflationary pressures are transitory, one shouldn’t conclude that means they are short-lived.
Transitory means that there are no institutional measures that are likely to keep the price pressures accelerating once the supply chain bottlenecks ease.
How long that will take depends on the course of the pandemic.
It could be some years.
Annual Helsinki Public Lecture and Teaching Program – January-February, 2022
I will be presenting my annual public lecture via a live YouTube stream tomorrow (Tuesday, January 25, 2022) on the topic of the global economy and the pandemic in my role as Docent Professor of Global Political Economy at the University of Helsinki.
This is an annual lecture which for the past two years I have had to deliver remotely due to coronavirus impediments.
The YouTube link for the stream is https://youtu.be/TEm_77Y7eNs
The lecture starts at:
- 19:15 Melbourne, Sydney time
- 10:15 – Helsinki time
- 08:15 – London time
- 03:15 – New York time
- 17:15 – Tokyo time
- 00:15 – San Francisco time
You are also invited into my Helsinki teaching class for the next two weeks.
While these lectures form part of a formal postgraduate coursework program at the university, I am permitted to make them publicly available as part of the outreach program.
The teaching program will be:
- Tuesday January 25, 2022 – Streamed public lecture (YouTube) starting 10:15 Helsinki time.
- Wednesday, January 26 – first Zoom lecture with class – 08:15-09:45 Helsinki time.
- Thursday, January 27 – second Zoom lecture – 10:15-11:45 Helsinki time.
- Tuesday, February 1 – third Zoom lecture – 10:15-11:45 Helsinki time.
- Wednesday, February 2 – fourth Zoom lecture – 08:15-09:45 Helsinki time.
- Thursday, February 3 – final Zoom lecture – 10:15-11:45 Helsinki time.
The Zoom link for the lectures is:
Meeting ID: 535 417 4274
I hope to see some of you in the ‘class’.
This is an MMTed initiative.
That is enough for today!
(c) Copyright 2022 William Mitchell. All Rights Reserved.