I often see pundits talk about how inflation is dead, how “global forces” are holding down inflation. This is nonsense. Most people live in countries where inflation is 3% or higher, often much higher. Here are just a few examples (estimates of 2021 inflation from The Economist). They contain most of the world’s population:
China: 3.1%
India: 4.0%
Ukraine: 6.6%
Turkey: 10.8%
Bangladesh: 5.6%
Indonesia: 3.2%
Kazakhstan: 6.7%
Pakistan: 6.0%
Philippines: 3.2%
Sri Lanka 5.1%
Uzbekistan: 12.2%
Mexico: 3.9%
Argentina 45.3%
Cuba: 6.0%
Uruguay: 7.5%
Venezuela 640% (world’s highest)
Angola: 19.1%
Egypt: 5.1%
Iran: 21.3%
Kenya: 6.0%
Lebanon: 98.8%
Libya: 7.7%
Nigeria: 16.8%
South Africa: 4.1%
Syria: 54.5%
Zimbabwe: 223%
Most of these are not particularly small countries. For instance, the combined population of Pakistan and Indonesia is nearly 500 million, roughly equal to North America.
You might wonder if the high inflation is somehow caused by the fact that these are developing countries. But why would an advanced country like the US forget how to do something that a less advanced country such as India can accomplish with ease? Turkey has double-digit inflation, while neighboring Bulgaria has less than 3% inflation. And yet both countries have fairly similar levels of per capita GDP (in PPP terms.) And I’ve excluded from this list many extremely poor countries with almost no inflation.
The actual distinction is monetary policy. Bulgaria’s currency is fixed to the euro, and the ECB targets inflation at below 2%. Not surprisingly, eurozone inflation is below 2%.
People often mention China as a factor holding down inflation, which is nonsense. Growth in Chinese exports reduces the relative prices of imported manufactured goods, but has no bearing on changes in the absolute price level. Argentina’s 45% inflation doesn’t mean that Argentine exports are very expensive, just that the Argentine currency is rapidly depreciating. Each country determines its own inflation rate (assuming a floating exchange rate).
So why do so many fully developed economies have low inflation? Because they are all trying to have low inflation. Central bankers in developed countries largely have the same mindset, and adopt pretty similar monetary policies, although the English speaking central banks are often a bit more “dovish” than Europe and Japan.
I often read pundits suggesting that the Fed was “struggling” to push inflation up to 2%. This makes me want to pull my hair out. The Fed raised its interest rate on bank reserves nine times between 2015 and 2018, and every single rate increase was specifically aimed at holding down inflation. How can anyone looking at that picture conclude that the Fed was “struggling” to push inflation up to 2%? It boggles the mind.
The interesting question, and the question that pundits should be asking, is why did the Fed believe that raising interest rates nine times would help them to hit their 2% inflation target? Why did they misjudge the situation? The most likely answer is that they were relying on faulty “Phillips Curve” models. But this has absolutely nothing to do with some sort of mythical “global forces” holding down inflation.
What “global forces” can do is hold down real interest rates. If the central bank were targeting inflation at 2%, these global forces would then also hold down nominal interest rates, perhaps to zero. Now you have an actual model of how global forces might affect monetary policy. But this model has absolutely no bearing on the Fed’s failure to hit its 2% inflation target during the 2010s. It failed because it kept raising interest rates over and over again, when it should not have been doing so.
If Turkey and India can create inflation, I assure you that developed country central banks can also do so. They simply refuse to take the necessary steps.
The list of countries above contains two types of inflation. The very high inflation rates are usually in countries that are broke, and that are printing money to pay their bills. (This can be explained by the fiscal theory of the price level.) Most of the countries with 3% to 12% inflation are not broke; they have simply chosen to adopt a more expansionary monetary policy than the US. The US itself had inflation in the range from 1966-1990. This post does not take a stand on whether China’s 3.1% inflation or India’s 4% inflation is optimal, but I suspect that inflation is pretty far down the list of pressing economic challenges facing their 2.8 billion people.
READER COMMENTS
Thomas Hutcheson
Dec 23 2020 at 4:16pm
“The interesting question, and the question that pundits should be asking, is why did the Fed believe that raising interest rates nine times would help them to hit their 2% inflation target?”
More likely, the Fed did not in fact have a 2% inflation target.
Alan Goldhammer
Dec 23 2020 at 4:37pm
Inflation in the US during the 1966-90 period was not always a pretty picture. Some of that was tied to the formation of OPEC and the oil shocks that came after. I remember filling up my car with gas in 1966 when regular was about 19 cents/gallon!
We are still in a period when nobody is spending much money except on essentials. How can you have inflation in a pandemic except in pricing of toilet paper. I found a bizarre arbitrage on Amazon today when I was looking at refills for the hand soap we use. It comes in both 12.5 oz pump dispensers and 22 oz refill bottles. The pump dispensers were 22% cheaper than the bulk refills despite having more packaging costs. This was just weird.
You write,
Isn’t the fundamental not the concern of inflation but whether purchasing power is affected? I don’t know what the impact of this is in the countries you list with high inflation rates but that ought to be what is looked at.
Garrett MacDonald
Dec 23 2020 at 6:15pm
I recall Scott did a post on that a few years back:
Scott Sumner
Dec 23 2020 at 7:04pm
Yes, oil prices don’t explain very much of the Great Inflation, just two brief periods of especially high CPI inflation.
marcus nunes
Dec 23 2020 at 7:57pm
It is likely that the oil shock was reaction to the rising US inflation!
Lord Canes
Dec 23 2020 at 6:58pm
According to this FRED chart, real per capita GDP in the US from 1966 to 1990 nearly doubled.
https://fred.stlouisfed.org/series/NYGDPPCAPKDUSA
May inflation bring us such troubles in the future as well.
Scott Sumner
Dec 23 2020 at 7:02pm
Correlation, causation
Lord Canes
Dec 24 2020 at 2:28am
Correct. I was being sarcastic.
Inflation did not create nor impede much the doubling of real GDP per capita in the US from 1966 to 1990.
One could argue overzealous efforts to suppress inflation hurt real GDP to some extent , or that a moderate amount of inflation was positive.
Scott Sumner
Dec 24 2020 at 12:09pm
I think the 1980s and 1990s pretty convincing showed that the Natural Rate Hypothesis is correct.
Mark Brophy
Dec 23 2020 at 11:57pm
The national debt is much higher today so we won’t prosper in the future. The federal government borrowed $5 trillion this year.
Alan Goldhammer
Dec 24 2020 at 9:29am
I guess I look at this different. I’m not an economist but just a humble investor who looks at this from a financial analyst perspective. I am more concerned about stock market returns and how those might be impacted. This is my bottom line as an investor and one who is concerned about capital growth.
If you look at the S&P 500 over the same period of time that you mention you see see no real return at all assuming you did not do any market timing. On Jan 1966 it stood at $760 and on Jan 1990 it was $672 with a large dip in price during that period. Inflation without capital growth is a recipe for disaster.
robc
Dec 25 2020 at 2:22pm
I think dollar cost averaging worked well.
Thomas Hutcheson
Dec 24 2020 at 8:02am
This seems to hit the nail of popular perceptions of “inflation” on the head. The model that many people have of inflation is of a policy that causes prices of items purchased to rise but incomes to remain unchanged. Paradoxically, policies that cause deflation are seen as reductions in income with prices remaining the same. This is at the base, I think, of Fed’s reluctance to being seen targeting inflation when this is understood as needing to sometimes increase inflation.
marcus nunes
Dec 23 2020 at 7:48pm
With AIT the Fed is trying to “downgrade” the Phillips Curve “constraint”. It is still there, however!
https://thefaintofheart.wordpress.com/2020/10/09/is-the-new-monetary-policy-framework-ait-an-improvement/
Dylan
Dec 23 2020 at 8:11pm
How well are these measures of inflation correlated with aging populations? A quick glance makes it look like most of the higher inflation countries also have younger populations and the lower inflation countries are older? Would there be a political reason why it would be difficult to get support for higher inflation in older countries?
Michael Sandifer
Dec 23 2020 at 8:42pm
Demographics seem to affect money velocity, but central banks still have 100% control of the inflation rate.
Lizard Man
Dec 23 2020 at 9:30pm
China’s population has about the same median age as the US, and it still has higher inflation. So age in itself is not sufficient condition for low inflation.
marcus nunes
Dec 23 2020 at 9:38pm
Some have argued that the high inflation of the 1970s was the result of demographics!
https://thefaintofheart.wordpress.com/2013/09/07/eureka-the-great-inflation-was-the-result-of-demographic-trends/
Scott Sumner
Dec 24 2020 at 12:12pm
I think it’s more a question of rich and/or highly educated countries having lower birthrates, and thus an older population. This correlates with more inflation control. But it does make the zero bound more likely, so that might be one factor.
Lord Canes
Dec 23 2020 at 9:00pm
Growth in Chinese exports reduces the relative prices of imported manufactured goods, but has no bearing on changes in the absolute price level.–Scott Sumner
I am not sure what this means. Surely, a long-term decrease in the nominal cost of manufactured goods (domestic or foreign) has an impact on the official CPI as measured.
Also, George Selgin has written that an agricultural economy could have a crop bust, a decrease in the supply of its largest commodity (say rice, in the old days, Asia Pacific) and an increase in the most important component of the CPI, as measured.
(Would decreases in the cost of other goods offset the crop bust? Why? What if everything is already defined by competitive markets, that is produced at lowest cost possible? Thus, an increase in the cost of one good cannot be offset by decreases in the costs of other goods. The little u-shaped semicircles on microeconomics charts are meaningless).
Similarly, if property zoning across the US, in aggregate, continuously becomes tighter and more restrictive, then you will see increases in the costs of housing as measured, that feed into the CPI directly, and decreases in the relative supply of labor high-cost urban areas, that require higher compensation, and thus an inflation cycle of sorts, as measured.
Monetarists have their strengths, but theories, when sacralized, become economic theologies.
Michael Pettis has a terrific new book out, “Trade Wars are Class Wars.”
eg
Dec 24 2020 at 11:03am
The Pettis book is excellent.
And I agree with Scott, the Phillips Curve is rubbish.
Scott Sumner
Dec 24 2020 at 12:15pm
You said:
“I am not sure what this means. Surely, a long-term decrease in the nominal cost of manufactured goods (domestic or foreign) has an impact on the official CPI as measured.”
If the Fed is targeting inflation at 2%, then lower import prices just mean more service price inflation. At least in the long run. On the other hand, no one denies that temporary import price shocks move the CPI, because the Fed tends to target longer run core inflation.
It will be interesting to see if the Fed is serious about AIT; that may answer some of these questions.
sty.silver
Dec 24 2020 at 2:01pm
My sister’s husband had relatives in Venezuela, and she tells me the prices double roughly every 2 weeks. This would be over 10000000% inflation, not 640%. I hope the other numbers are more accurate.
Scott Sumner
Dec 24 2020 at 11:36pm
This is the forecast for 2021. In addition, estimates from average people aren’t always accurate, as they sometimes focus on the more extreme price rises. Not saying she’s wrong, but I’d want to double check. This source suggests that inflation was a few thousand percent in 2020:
https://tradingeconomics.com/venezuela/inflation-cpi
sty.silver
Dec 25 2020 at 4:15pm
Sorry for the poor job in reading the post. Was typing mid conversation and on mobile. Your points are all well taken.
Lord Canes
Dec 28 2020 at 7:18pm
So why no inflation in the developed economies since about 1980?
I think you have to read Michael Pettis, and then you get the general answer.
Developed nations have been defined since 1980 by declining labor shares of income, relative to GDP.
In every advanced nation, if ever labor develops some leverage, then jobs will be offshored or immigrants brought in. From the perspective of the multinationals, globalization works.
Alongside of this have been continuous improvements in manufacturing processes. Workers produce double what they did in the 1980s.
We see the results; there are gluts of anything you can think of in terms of manufactured products, and even of commodities. Oil is a rare exception, and is in fact controlled by a cartel and yet still there tends to be gluts.
This makes Larry Sumner’s recent comment that a $2,000 stimulus check could lead to “overheating” particularly strange. With globalization, the idea of overheating in manufactured good prices is exotic, and labor hasn’t had any leverage in developed nations in a couple generations.
You might see some inflation in housing costs in rents if a $2,000 check went out, but the places where rents have been soaring in the recent past (due to property zoning) are emptying of population presently.
Once again, it appears the conventional macroeconomics profession got frozen into the 1970s and never changed.
Whether monetarist or Keynesian, macroeconomists sacralized their models.
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