Some of these central bankers, and quite a few outside commentators, have focused on the fact that the recent pick-up in prices is not generalised throughout the whole economy and, in particular, it hasn’t led to an economy-wide upsurge in wages. This attitude strikes me as too complacent. When an inflationary upsurge emerges, it does not pre-announce its arrival. Moreover, inflation is a process. It is normal for it not to be present to the same degree in all markets and all products at once.
As it is, inflation is very evident in a number of important markets. Perhaps the most significant of these is housing, where prices have been zooming up in most countries. And in parts of the labour market in the US and the UK, there is decided upward pressure on wages.
Even if such asset price inflation as is evident in American equities and property almost everywhere doesn’t spill over into generalised inflation for goods and services, central bankers need to be concerned about the current stance of policy. They seem to be taking a conventional neo-Keynesian approach of looking at the data and trying to judge what is likely to happen in the near future. In most circumstances this is probably the appropriate way to proceed.
But the current conjuncture does not correspond to “most circumstances”. Quite the opposite. Central banks are still grossly expanding their balance sheets, and interest rates are at near-zero. Policymakers need to be more Austrian, that is to say, putting less emphasis on trying to forecast inflation and more on looking at the potential for policy intervention to cause future problems and major distortions, as it is currently doing in both financial markets and the economy. There is a severe risk that if central banks are right about the uptick in inflation being transitory and they accordingly desist from tightening monetary policy, without a significant check from the China factor, asset prices will continue to rise inexorably, stoking the risk of a future financial crash.
This is reminiscent of the run-up to the Global Financial Crisis of 2008-9. In the years immediately prior to this, inflation in the market for goods and services was subdued, thanks in large part to the disinflationary impact of globalisation and the rise of China. This persuaded central banks to keep interest rates low. They paid too much attention to their price stability targets, as clearly defined, and not enough attention to their largely unspecified, yet extremely important, responsibility to ensure financial stability.
On both sides of the Atlantic, from where we stand now, surely the balance of risks is clear. The sooner central banks start to normalise monetary policy the better.
Roger Bootle is chairman of Capital Economics