European Central Bank president Christine Lagarde testifies before the European parliament’s economic and monetary affairs committee in Brussels, Belgium, on February 6 2020. Picture: REUTERS/FRANCOIS LENOIR
European Central Bank president Christine Lagarde testifies before the European parliament’s economic and monetary affairs committee in Brussels, Belgium, on February 6 2020. Picture: REUTERS/FRANCOIS LENOIR

Frankfurt — True believers in the return of global inflation have started 2020 with renewed hope, and the scorn that goes with it.

Successive years of paltry price growth, depressed by powerful phenomena from demographic shifts to globalisation and technological change, have not yet killed the anticipation that the tide will finally turn. When it does, such prophets foretell, central banks will be caught unawares.

Ken Griffin, founder of $30bn hedge fund Citadel, delivered the latest warning last week, telling the Economic Club of New York that there is “absolutely no preparedness for an inflationary environment” in the US.

He is not alone. Ethan Harris, head of global economic research at BofA Securities, wrote a note in January titled “Inflation: Talk of Death Greatly Exaggerated” that cautioned against complacency bred by past “false dawns.” Algebris Investments fund manager Alberto Gallo wondered aloud if US or UK officials might make a “policy mistake” by keeping monetary policy too loose.

That narrative suggests resurgent inflation spilling over from tight labour markets could leave policymakers scrambling to reverse their ultra-low interest rates and unwind their bond-buying programmes.

“If the labour market begins to put ever greater pressure on wages, and supply chains get broken, and productivity slips and you start to see inflation, we have a long way to go for the central banks to correct their monetary policy,” Barclays CEO Jes Staley said in a Bloomberg Television interview.

Investors do not yet see it that way. The bond market’s gauge of inflation expectations, US 10-year break-evens, has had difficulty holding above 2% since early 2019, and is now about 1.66%.

While that is up from the lows of 2019, it is still too weak for Federal Reserve officials. Even January’s stronger-than-expected jobs growth gave them no reason to expect steeper price gains.

“Unless and until we see those low unemployment rates putting excessive upward pressure on inflation, we’re not prepared to say we’re necessarily at full employment,” Fed vice-chair Richard Clarida told Bloomberg Television on January 31.

“The underlying hiring trend is robust, providing a sturdy foundation for domestic growth. However, this is due to be challenged in the near-term by weak global growth in general and coronavirus supply-chain disruptions in particular,” said Bloomberg economists Carl Riccadonna, Yelena Shulyatyeva and Eliza Winger.

If anything, Fed officials are more worried that prices will be persistently low. They are now reviewing their policy framework, and one idea floating about is a “make-up strategy” in which inflation is allowed to run above the 2% goal for a while to compensate for having fallen short.

Allianz Global Investors fund manager Lucy Macdonald said last month that Britain’s “extremely tight” labour market — and the prospect of a bumper budget — stands out as a particularly promising candidate for faster inflation. Yet the Bank of England is unconvinced, with policymakers spending time at their January 30 decision fretting that price pressures are suddenly worryingly weak.

That chimes with the pervading view among Group of Seven (G-7) central bankers. Average consumer-price gains across the G-7 remained below 2% all through 2019, according to the Organisation for Economic Co-operation and Development (OECD). It is confounding for policymakers, who have long believed that inflation and employment have an inverse relationship known as the Phillips curve. Tight labour markets, as they now are, should lift wages and prices.

The European Central Bank renewed its stimulus push last year but, as of last week, president Christine Lagarde was still describing the price outlook as “subdued”.

For Steven Major, HSBC Holdings global head of fixed income research, renewed speculation over an inflation resurgence is a movie he has seen often.

“Why is it, every year, we start with this reflation theme?” he asked Bloomberg Television last week. “There is this perennial optimism, somewhat fallacious in my opinion, that gets found out very quickly.”

There will be surprises, and exceptions. In China, the coronavirus outbreak sent inflation to an eight-year high last month as transport disruptions boosted food prices. Norway recorded an unexpected price surge in January.

Czech policymakers raised their interest rate last week — possibly the only increase anywhere so far this year — to try to bring consumer prices under control. Sweden’s Riksbank engineered an exit from sub-zero borrowing costs at the end of 2019, deeming inflation there to be strong enough.

Some investors are sticking to their view that faster price growth will return more widely, just not immediately.

“We don’t see inflation in the near-term — we think that globalisation and technology are going to keep Phillips curves flat,” said Nicola Mai, a portfolio manager at Pimco.

But “because of fiscal activism and central banks really preferring higher inflation to lower inflation, we think over the medium-to-long run, we could have a resurgence”, Mai said.

Bloomberg