By Michael O’Neill
Rod Serling created a TV series about traveling in another dimension in 1959. “It is a dimension as vast as space and as timeless as infinity. It is the middle ground between light and shadow, between science and superstition, and it lies between the pit of man’s fears and the summit of his knowledge. This is the dimension of imagination. It is an area which we call the Twilight Zone”
That was the opening narrative to a series that continues to thrive in various permutations, sixty-two years later.
It could also be the preamble to central bank monetary policy statements, especially when they discuss inflation.
Inflation is defined as “a general increase in prices, and fall in the purchasing power of money.” It sounds quite simple unless you are a central banker. Then it becomes a can of worms, in a blender on puree, with a dash of tabasco for seasoning.
The Bank of England (BoE) changed their inflation forecast for 2021 from 2.5% in May to 4.0% at their August meeting. Policymakers attributed the increase to the impact of the pandemic as the economy reopens.
“This has led to higher energy and goods prices, which in turn reflect rising commodity prices, transportation bottlenecks, constraints on production and strong global demand for goods. As such, above-target inflation is expected to be transitory, as commodity prices stabilise, supply shortages ease, and global demand rebalances.”
The Bank of Canada (BoC) is out to lunch with its inflation forecasts as well. They raised their Q2 CPI forecast to 2.4% in April to 3.4% at the July 14 meeting and forecast Q3 CPI at 3.9%. Those increases are just going to be temporary.
Bear in mind that the BoC inflation target is 2%, the midpoint of a 1-3% target range. But that’s ok, because they predicted that Q4 2022 and 2023 inflation would fall to 2.0% and 2.4%, respectively. Presto! Target achieved.
The BoC has a host of reasons to explain why their forecasts were so badly out of whack. Governor Tiff Macklem even penned an op-ed in the Financial Post on July 29 because “Even before the pandemic, we knew Canadians cared about inflation.” (can you say condescending?)
Mr Macklem blamed higher inflation on unique circumstances from the pandemic, pointing out that prices that plunged during COVID-19 quickly rebounded, which is reflected in more dramatic inflation readings. He cited gas prices as an example. Supply chain disruptions were another factor.
The Monetary Policy report said that “the outlook for inflation reflects the dynamics of overall demand and supply in the economy, as well as a number of temporary factors.”
Fed Chair Jerome Powell has been chirping about transitory inflation since he has had the seat.
The Fed could never understand why inflation was stubbornly below 2.0% from 2019 until the pandemic but maintained low rates were transitory. The reverse is true today. US inflation was 5.4% y/y in July, unchanged from the June result.
The Fed struggled to hit its 2.0% target consistently, so they devised a new, unquantifiable, floating target “that seeks to achieve inflation that averages 2 percent over time.” “
Is inflation transitory, or is it the central bank measurement of inflation that is transitory?
Bank of Canada, Bank of England, and Fed policymakers are united in their view that good times are just around the corner. The BoC expects robust 6.5% growth for the domestic economy fueled by consumer spending, foreign demand, higher commodity prices and a recovery in the labour market.
But if the good times will roll, doesn’t that mean increased demand for supply, services, and workers? It is already happening south of the border.
The latest US Job Openings and Labor Turnover (JOLTS) report showed a record 10.1 million job openings as of June 30, which exceeds the number of unemployed people (9.22 million) in the US.
Economics 101 teaches prices rise when demand exceeds supply, That means companies with back-logged order books competing for skilled workers will offer higher wages. Someone has to pay the increased costs. That will be you.
Unlike gas price hikes, wage increases are unlikely to be transitory and wage inflation has a nasty habit of spiraling into other areas.
The inflation dynamics and the Central Banker’s spin on rising levels is in a dimension of imagination. It is an area which we call the Inflation Twilight Zone.