[Contribution] Is inflation really out of control?

[Contribution] Is inflation really out of control?

Another Great Inflation unlikely today

By Stephen Lee

[Contribution] Is inflation really out of control?

Stephen Lee is the chief economist at Meritz Securities, Seoul. Courtesy of Mertiz Securities

Inflation has been drifting higher recently, with October’s U.S. consumer price inflation (CPI) rate at a whopping 6.2 percent year-on-year ― the highest in three decades. This situation certainly is a dilemma for central banks, as they may have to shift their reaction function to containing inflation, although the economy is still dependent on the course of the virus. So I believe it is useful to diagnose characteristics of today’s inflation with historical lessons, so as to gauge its outlook and implications.

What is causing today’s inflation?The origin of today’s inflation is natural, as massive fiscal deficits, combined with steep rate cuts and asset purchases, swiftly boosted the nation’s aggregate demand. This situation met with short-term, inelastic, aggregate supply, which lifted price levels. We call this kind of inflation “demand-driven,” which often is interpreted as “good” inflation.

The problems have come during the process of economic recovery. Some developing nations in the supply chain suffered a hard time controlling the Delta variant. Lockdowns were imposed and factories were shut down temporarily. Shipments of raw materials and intermediate goods were delayed, creating shortages and resulting in higher prices. Final goods production was also lagging and constrained, due to labor shortages in advanced countries. Less output was combined with higher producer prices, as scarcity in goods, along with wage pressures, were added, and the latter eventually translated into higher consumer price inflation (CPI).

The latter part ― the supply side of the inflation ― lifted the CPI inflation outlook further, while causing the economic growth outlook to be revised down. Some people started to be concerned about another Great Inflation (or a “great stagflation”) coming, worrying about the persistence of such trends.

A closer look at the economic environment of the 1960s-70s

Are we going to experience another Great Inflation? To gauge the likelihood of that, a closer look at the 1960s and 1970s’ economic environment seems necessary. Many people tend to think about the two oil shocks that occurred in the 1970s, but they only explain half of the episode. Actually the Great Inflation started in 1965 and lasted until 1982. Therefore, understanding the origin of the Great Inflation is important. This history review relies on a great paper, “Origins of the Great Inflation,” written by professor Alan H. Meltzer in 2005 and published by St. Louis Fed.

Similarities exist between today and those days, as inflation then was also built upon demand and supply. But there are also important differences.

First, the shape of the Philips curve ― showing the adverse correlation between the unemployment rate and inflation ― was steep and convex in the 1960s. This means that, once the unemployment rate dropped below that of the non-accelerating inflation rate of unemployment (NAIRU), wage-driven inflation emerged quickly.

Second, labor productivity growth was slowing in the 1960 and 1970s, meaning that there was a lack of innovation during that period.

Third, the Federal Reserve hesitated to react to the overheating of the labor market or to the rising inflation pressures. Rather, the Fed generally preferred to coordinate with the government in boosting the economy by expanding the monetary base.

Fourth, the influence of labor unions, as well as President Nixon’s price controls being lifted by 1974, caused any supply-driven shocks to easily translate into higher wages and core inflation pressures. Additional inflationary pressures from the first and second oil shocks of 1973 and 1978-79 came amidst these environments, resulting in inflation persisting continuously.

How is now different from the 1960-70s?I would like to point out two things. First, today’s Philips curve, even after the COVID-19 crisis, is believed to remain flat. It is because the factors that flattened this curve have never disappeared. Those factors are: 1) productivity growth, 2) lower production costs driven by global outsourcing and 3) lower retail trade costs driven by the greater influence of e-commerce, namely Amazon.

Second, the Federal Reserve’s expansion of base money created “monetary inflation” in the 1960-70s on the back of the rising velocity of money. Base money was translated into broad money, and fast circulated within the real economy. Since the mid-1980s, however, the velocity of money has been in a consistently downward trend, implying that most of base and broad money created were staying within the financial market (and creating asset inflation). Although it looks like today’s inflation sits above the massive monetary base created by the Fed, this situation does not imply that the two have a causal relationship. I believe that monetary inflation barely exists today.

Future of today’s inflation, and implications for the FedI believe that supply-driven inflation pressures ― the main cause of recent inflation ― will peak during the first quarter of 2022, based on the following assumptions.

First, inflationary pressures from emerging market-driven global supply disruptions are likely to have peaked out in the third quarter of this year. The effect of the Omicron variant is a risk, but we assume there will be better handling of the virus from these nations going forward.

Second, oil prices are likely to peak during the first half of 2022. We believe oil prices will rise back up, once the effect of Omicron wanes, spurring greater transportation demand. Oil prices are to decline, as increased supply from the U.S. and OPEC gradually meets demand in the first half of next year.

Third, freight costs are to peak in the second half of 2022, as container ship orders translate into deliveries at that time.

Fourth, rising wages from labor shortages in low-wage segments are to peak in months, as employers are to seek capital-intensive production if they feel that labor costs are too much.

Although CPI inflation is to peak out soon, it is expected to stay around 4-5% ―well above the Federal Reserve (Fed)’s target ― at least until the first half of 2022. The Fed will likely accelerate the pace of trimming asset purchases, aiming to end tapering by March of next year. Any policy rate hikes will be also pulled forward. That said, the Fed is likely to consider whether the labor market has accomplished full employment before its first rate hike. With frictional unemployment causing inefficiency in the labor market, which will take quarters to resolve, the first hike will likely take place in September, rather than in June. The Fed will likely stick to gradualism in the longer run once inflation fades out, ending its rate hike cycle below the neutral level.

The writer is the chief economist at Meritz Securities, Seoul.

News Related

OTHER NEWS

NCT 127's 'Sticker' stays on Billboard chart for 17-consecutive weeks

NCT 127 / Courtesy of SM Entertainment By Dong Sun-hwa “Sticker,” the third studio album by NCT 127 ― a sub-unit of K-pop boy group NCT ― is showing its ... Read more »

Hyundai Samho's IPO plan angers investors in parent firm

Hyundai Samho Heavy Industries’ shipyard in Yeongam, South Jeolla Province. Courtesy of Hyundai Samho Heavy Industries Irregular worker’s death jeopardizes shipbuilder’s ESG rating By Park Jae-hyuk Minority shareholders of Korea ... Read more »

'Hyundai Motor shows no signs of rebound in China'

Hyundai Motor plans to sell its first plant in Beijing, after suspending its operation in 2019, as demand for its cars in China has been falling since 2017. Korea Times ... Read more »

Director Joung Yumi's 'House of Existence' selected for Berlinale Shorts

By Kwak Yeon-soo The poster for the film, “House of Existence” / Courtesy of KOFIC Director Joung Yumi’s “House of Existence” was selected for the Berlinale Shorts competition of this ... Read more »

Retail investors in biotech on verge of losing money over chilled market sentiment

SillaJen is one of the companies in the medical care and pharmaceutical sectors that are embroiled in financial scandals this year. Korea Times file By Yi Whan-woo Retail investors in ... Read more »

Kakao names Namkoong Whon as new CEO

Namkoong Whon, new CEO of Kakao / Courtesy of Kakao Kakao, the operator of Korea’s top mobile messenger KakaoTalk, said Thursday it has named Namkoong Whon as its new CEO, ... Read more »

Pregnant women face dilemma over COVID-19 vaccinations

Getty images By Bahk Eun-ji Concerns among pregnant women are growing as they are not included as eligible for the government’s vaccine pass exemption. The Central Disease Control Headquarters said ... Read more »

From TREASURE to Apink, a wave of K-pop stars to drop new songs next month

By Dong Sun-hwa A slew of K-pop stars including GOT the beat and Kep1er electrified their fans with their new music offerings in January. February is set to be another ... Read more »

Korea aims to become world's 5th biggest metaverse market by 2026

gettyimagesbank The government unveiled a long-term road map to foster its metaverse industry Thursday, with the aim of becoming the world’s fifth-largest market over the next five years.Under the plan, ... Read more »

Daily cases jump to over 6,000 for 1st time in nearly a month amid Omicron woes

A medical worker in a booth takes a nasal sample from a man at a makeshift COVID-19 testing site in Seoul, Jan. 19. AP-Yonhap Daily new COVID-19 infections jumped to ... Read more »

Hyundai, US firm join hands for battery development

gettyimagesbank Hyundai Motor said Thursday it has partnered with U.S. quantum computer firm IonQ for battery development. The partnership will allow Hyundai Motor to use IonQ’s quantum computers to develop ... Read more »

Seo Kang-jun, Kim A-joong hunt down mysterious assailant in Disney+ series 'Grid'

Actor Seo Kang-jun in a scene from Disney+ series “Grid” / Courtesy of Disney+ By Kwak Yeon-soo Actor Seo Kang-jun is currently serving his mandatory military service, but his absence ... Read more »

POSCO chief apologizes for worker's death in steel mill accident

A worker died at a plant of South Korea’s top steelmaker POSCO on Thursday after being hit by a coal-moving vehicle, police said. The 38-year-old worker, affiliated with a service ... Read more »

NH Financial Group to prioritize ESG and digital business

NH Financial Group Chairman Son Byung-hwan, fifth from left, poses for a photo along with the CEOs of the group’s affiliates, after holding a strategic management meeting at the group’s ... Read more »

'Parasite' director preparing to adapt sci-fi novel into film with Warner Bros.

Filmmaker Bong Joon-ho / Korea Times file Oscar-winning filmmaker Bong Joon-ho will likely come back with an English-language movie based on an unpublished U.S. science-fiction novel on clones, with Hollywood ... Read more »

POSCO's spinoff plan undermined by minority shareholders

POSCO’s flag hangs on its building in Seoul in this file photo. Courtesy of POSCO By Park Jae-hyukPOSCO is still facing uncertainties about its ambitious plan to restructure itself as ... Read more »

Lotte acquires Ministop's Korean operations

A Ministop convenience store in Seoul / New1 Lotte, the holding company of Korean retail giant Lotte Group, said Friday it has acquired a 100-percent stake in Ministop Korea for ... Read more »

External risks weigh on Korea's economic recovery

Electronic signboards in a Hana Bank dealing room in Seoul show intra-day trading of the benchmark KOSPI, the won-dollar exchange rate and the tech-heavy KOSDAQ, Friday. Yonhap US, China factors ... Read more »

Ji Sung, Seo Ji-hye to co-star in new thriller series

Actors Ji Sung, left, and Seo Ji-hye will play the lead roles in tvN’s new series, “Adamas.” Courtesy of Breitling Korea, Culture Depot By Lee Gyu-lee Actors Ji Sung and ... Read more »

AGS Transact Technologies IPO sees 1.68 times subscription, QIB portion booked 49% on final day

AGS Transact Technologies IPO The maiden public offer of AGS Transact Technologies, one of the largest integrated omnichannel payment solutions providers in India, is subscribed 1.68 times as it received ... Read more »

Persistent Systems share price rises 6% on better Q3 numbers

Persistent Systems share price gained 6 percent intraday to trade at Rs 4,500 on January 21 after the company showed improved performance for the quarter ended December 2021. Persistent Systems ... Read more »

Asian Paints Results | Should you buy, sell or hold the stock after Q3 earnings?

Asian Paints share price declined 2 percent in early trade on Friday after the company came out with its December quarter results. Asian Paints on January 20 reported a consolidated ... Read more »

Gainers & Losers: Top 5 stocks that moved the most on January 21

India’s equity benchmarks ended in the red but off the day’s low. The Sensex was down 427.44 points, or 0.72%, at 59037.18, and the Nifty shed 139.80 points, or 0.79%, ... Read more »

JSW Steel share price slips ahead of December quarter earnings

JSW Steel share price slipped 2 percent intraday to Rs 666 on January 21, with the steelmaker set to announce its December quarter earnings later in the day. JSW Steel ... Read more »

Mphasis share price gains after Q3 profit rises to Rs 357.6 crore, Morgan Stanley sees 26% upside

Mphasis share price added more than 3 percent in the morning session on January 21, a day after the company declared its third quarter earnings. The IT firm on January ... Read more »

JSW Steel Q3 results | Net profit rises 62.5% YoY to Rs 4,357 crore, revenue grows to Rs 38,071 crore

JSW Steel Ltd, India’s second-largest steel manufacturer, on January 21 reported a consolidated net profit of Rs 4,357 for the quarter ended December 2021, registering a 62.5 percent year-on-year (YoY) growth ... Read more »

Moneycontrol Pro Panorama | Rural demand fails to shape up. Will the Budget step up?

Representative Image (Source: Reuters) Dear Reader, The Panorama newsletter is sent to Moneycontrol Pro subscribers on market days. It offers easy access to stories published on Moneycontrol Pro and gives ... Read more »

Domestic brokerages bet on these 10 largecaps for 13-32% return

Indian benchmark indices saw selling pressure for the fourth consecutive day with BSE Sensex and Nifty down nearly 4 percent each. The notional wealth of equity investors has suffered an ... Read more »

Daily Voice | Market can give double-digit returns, but Nifty rising above 21,000 looks unlikely in 2022: Kamal Manocha of PMS AIF World

From the perspective of equity markets, Kamal Manocha, founder & CEO of PMS AIF World, says if long term capital gain tax on equity investments is increased in Budget 2022 ... Read more »

Gold Prices Today: Yellow metal to edge higher, experts suggest buy on dips

Gold prices were muted on January 21 in the international markets and were on course for a second consecutive weekly gain as investors turned to safe-haven assets while awaiting signals ... Read more »

Early Q3 earnings point to margin pressure, trend may continue in Q4

Early trends of third-quarter company results indicate that high input costs continue to be a bugbear. Profit margins moderated for yet another quarter even as earnings were mostly in line ... Read more »

HUL Results | Should you buy, sell or hold the stock after Q3 figures?

Hindustan Unilever (HUL) share price rose in the early trade on January 21 – a day after the company reported its December quarter earnings. Hindustan Unilever reported a 16.8 percent on-year ... Read more »

Assembly speaker seeks support for Korean businesses in Sri Lanka

National Assembly Speaker Park Byeong-seug and Sri Lankan President Gotabaya Rajapaksa pose for camera in their meeting in Sri Lanka on Thursday. (National Assembly Speaker’s Office)National Assembly Speaker Park Byeong-seug ... Read more »

New Kakao CEO faces daunting tasks

Company has long way to go to restore public trust and investor confidence By Baek Byung-yeul NamKoong Whon, Kakao’s new CEO. Courtesy of Kakao Namkoong Whon, the newly appointed chief ... Read more »

SNL Korea becomes popular platform for actors to show off their goofy sides

Actress Shin Hae-sun in a scene from the comedy show “SNL Korea” / Screenshot from Coupang Play’s YouTube channel By Kwak Yeon-soo The second season of the revived “Saturday Night ... Read more »

Relocation of state-run banks as election pledge unnerves employees again

The sign of the Korea Development Bank (KDB) is located in front of its headquarters in Seoul. KDB is among several public financial institutions that presidential candidates say they plan ... Read more »

Samsung hints at Note in new Galaxy S series

Roh Tae-moon, president and head of MX Business at Samsung Electronics / Courtesy of Samsung Electronics By Baek Byung-yeul Samsung Electronics’ Galaxy Note series, which skipped release in 2021, is ... Read more »

MS-Blizzard deal prompts Korean game firms to seek more metaverse M&As

By Baek Byung-yeul Nexon, NCSOFT, Netmarble and other Korean game companies are expected to seek more mergers and acquisitions (M&As) in metaverse- and non-fungible token (NFT)-related businesses, sparked by Microsoft’s ... Read more »

Storytelling baristas appointed as Starbucks ambassadors

2022 Starbucks Korea ambassadors Yang Jung-eun, left, and Seo U-ram hold cups of coffee at a Starbucks coffee shop in Seoul, on Tuesday. Courtesy of Starbucks Korea By Kim Jae-heun ... Read more »

Korea remains No. 2 most popular content provider on Netflix in last quarter of 2021

A version of the Netflix series “Squid Game” is played on a mobile phone in this picture taken Sept. 30, 2021. Reuters-Yonhap Korea remained the No. 2 supplier of popular ... Read more »
On free-english-test.com you will find lots of free English exam practice materials to help you improve your English skills: grammar, listening, reading, writing, ielts, toeic