Balazs Coranyi

FRANKFURT, Reuters – Inflation is now back. You should be happy, if not relieved.

The world’s leading central banks have confirmed this verdict.

In recent years, with the support of huge government spending, central banks unleashed unimaginable monetary firepower to achieve this result. Anything less than this would be an indication that central banking’s most ambitious experiment to date has failed.

Japan is the only country that has not been able to raise prices, despite its efforts since 1990.

The other advanced countries are seeing a rise of price pressures which makes it possible to see the goal of unwinding the ultra-easy policy. It also raises the possibility that central banks, thrust into prominence in the financial crisis, might finally be able to step back.

Although the inflation rate is rising, there are risks. However, it’s hard to draw comparisons with 1970s stagflation. This was an era of high unemployment, inflation, and little or no growth.

On first look, current inflation rates do indeed look troubling. The price growth in the United States is currently at a high of 5% and may soon reach 4% in Europe. This would be well beyond the policy targets, and levels that have not been seen for well over 10 years.

However, there is no hard evidence to support the belief of policymakers that the temporary increase in the number of people affected by the economic bumpy recovery from the pandemic has been temporary.

“The current inflationary spike can be compared to a sneeze: the economy’s reaction to dust being kicked up in the wake of the pandemic and the ensuing recovery,” European Central Bank board member Isabel Schnabel said.

Therefore, central banks shouldn’t be surprised if the inflation rate settles higher after this “sneeze”. They have been trying to control inflation for the last decade.

Over half a dozen central banksers have spoken on-and off-record to relieve the fact that prices are rising and that policy normalisation is back in focus. This topic has been taboo for many years.

According to one unnamed policymaker, “If inflation does not rise now, it will never,” he said. “These are the ideal conditions. We worked hard for them.”

Already, central banks have begun to respond. Norway, South Korea, Hungary and others have all raised rates, while the U.S. Federal Reserve (Boeing of England) has made it clear that there is a change in the near future.

The ECB has been underestimating its inflation targets for a decade and is now preparing to reverse crisis-era measures quickly. Markets are currently pricing in a rate increase in 2022-2023. This will be the first such move since 2011.

NOT IN THE ’70S

An inflationary backdrop makes it unlikely that there will be stagflation.

The precondition for inflation is wage increases. They are currently anaemic across Europe, but they have held below the U.S. inflation rate. It is not clear that employers are planning to compensate employees for price rises.

The power of labour unions has declined over time. Wages no longer represent their demand. However, they also want to have a lot more: job security, leisure and work safety are other components. They are not likely to have the same bargaining power as those who drove wage growth and inflation up into the double digits during the 1970s.

A rising price of energy is likely to have a smaller impact than it did in the past. Over recent decades, energy’s share of total expenditure has fallen. The world also has many years of experience with managing oil prices over $80 per barrel.

Carsten Brzeski, an ING economist said that “economies have become less dependent upon energy both in terms private consumption and industrial production.” A rise in energy prices is not as detrimental to consumers, producers, and central bankers as it was in the ’70s.

In fact, the U.S. has seen a more than twofold increase in economic output per unit of energy since 1975.

The central banks, however, are not complacent. Because of the high inflation of 1970s, many were granted autonomy. Policymakers also recognize the risks of price rises unchecked.

Francois Villeroy de Galhau (French central bank governor) stated Tuesday, “We must be vigilant but not feverish.”

THE NEXT WORRY: DEBT

When “temporary inflation” persists too long, companies adjust wages and prices to correct it. This creates a temporary spike in the underlying price.

Rafael Bostic, Atlanta Fed President, stated that indicators do not indicate long-run inflation expectations being dangerously untethered. “But, the episodic pressures may grind on for long enough that they unanchor expectations.”

It is not possible to find a formula that will determine the length of a sentence.

The real problem going forward is probably something else: debt.

In order to get rid of the pandemic, government borrowed enormous sums. However, easy central bank policies keep this debt in check.

U.S. government debt hovers at 133% of gross domestic products, while it is close to 100% in the eurozone. This is a significant increase from just over 10 years ago when the levels were around mid-70%. Japanese debt exceeds 250% GDP.

Despite rising debt, ultra-low interest rates have made it cheaper to service them. This means that governments have become more dependent on the central banks to keep rates low.

The central banks might have to choose between higher inflation and higher borrowing costs, which could thwart economic growth.

Peter Kazimir, chief of the Slovene Central Bank said that while we are the financial ministers’ closest friends at the moment, this relationship will not last forever.