We are led to believe there are two types of cholesterol, in theory anyway, good and bad. The same may be argued for inflation. Although some may say that all cholesterol and inflation are bad, just one is less bad than the other. In theory, inflation can be good if it is driven by increased productivity from increased demand, leading to higher wages from the accompanying economic growth.
Bad inflation is the one we are at risk from getting in the UK if prices rise due to higher costs caused by the weaker pound. This type of inflation is known as stagflation. Stagnant growth but higher prices. Wages rise but productivity does not, the obvious example was the early 1970’s.
As we have all been told, and are witnessing, there has been a shift this year away from the status quo, protectionism is popular and will of the establishment is being discarded. The issue of immigration was an important driver in the outcome the Brexit vote. We also know the wealth gap between the have’s and have nots has grown significantly over the past 20 years. Why is this, and is globalisation to blame? Possibly.
Inflation in developed markets has been stable at low single digits for at least 20 years. This has led to a bull market in bonds, which has then led to a surge in global growth. One of the factors that led to the economic crisis in 2008, as optimism that this boom would continue, led to the wreck less bank lending.
Central banks have taken the credit for this economic growth whilst at the same time managing inflation. Claiming they could use their independence to better manage the economy without political influence.
What else could be the reason for this sustained periods of low inflation, now, and going back before 2008? One theory could be the new more liberal world, along with the demise of the communist regimes, has allowed the developed economies to export its inflation by moving its manufacturing base to cheaper regions, the Far East, as an example. This has lowered costs and therefore increased profitability, allowing company owners, directors and shareholders to be better rewarded. The same cannot be said for those who would have previously been employed to manufacturer those goods cannot command the wages they might have done.
Not only have developed economies exported inflation, we have also been importing deflation form regions of the world, where the standard of living is not so high. This again has permitted companies to lower cost bases, improve profitability and be rewarded for doing so.
China’s ability to now over supply the world with commodities such as steel, the effects of that has made many headlines in Wales earlier this year is another example. Going back in history, the late 19th century saw periods of deflation as South America and Australia started to export food to the rest of the world at far lower prices.
Central Banks may be able to take some of the credit for this apparent lack of inflationary pressures, despite the stronger growth. Globalisation may also have played a part, and for this reason is now the catalyst for the unrest.