BIS Says Globalization Is Answer to Inflation Puzzle

By Paul Hannon Features Dow Jones Newswires

Globalization is the most likely explanation for surprisingly low rates of inflation, suggesting that central banks should be patient in seeking to meet their targets and avoid providing too much stimulus, a senior official at the Bank for International Settlements said Friday.

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The bank's advice comes as the global economy has accelerated this year, while unemployment rates continue to fall across developed economies. Despite that, inflation rates across the Group of 20 largest economies have eased and stand at levels last seen in 2009, when the world was just starting to emerge from the sharp economic downturn that followed the global financial crisis.

Central bankers are puzzled at the breakdown in the economic relationship between activity and prices.

Federal Reserve Chairwoman Janet Yellen Wednesday acknowledged the inflation shortfall had proved more persistent and was more broad-based than officials had anticipated. "I can't say I can easily point to a sufficient set of factors that explain this year why inflation has been as low," she said.

Claudio Borio, who is chief economist at the industry association for central bankers, thinks the BIS has nailed the culprit: Globalization, a process that took off from the 1980s and has seen many large companies spread their activities and associated jobs across an increasing number of countries, creating what are known as "global value chains."

"One would expect the entry of lower-cost producers and of cheaper labor into the global economy to have put persistent downward pressure on inflation, especially in advanced economies and at least until costs converge," he said in a speech.

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The BIS has advanced this view with increased confidence over recent years, citing a mounting body of evidence from its own research and that of other economists. Some leading central bankers are now giving it greater credence. In a speech Monday, Bank of England Gov. Mark Carney said globalization has weakened the link between spare capacity in national economies and their inflation rates.

Mr. Borio said the influence of globalization on inflation has implications for central-bank policy.

"To the extent that disinflationary pressures result from forces such as globalization or technology, they should be generally benign: They would reflect favorable supply side developments as opposed to damaging demand weakness," he said. "At a minimum, this suggests lengthening the horizon over which it would be desirable to bring inflation back toward target."

In the current context, that would mean providing less stimulus to the economy than many central banks are now offering.

Mr. Borio offered another argument for running tighter policies, citing BIS research that suggests central banks have a much larger influence on real, long-term interest rates than they like to admit. Rather than being determined by the balance between savings and investment, Mr. Borio said an examination of the record from 19 countries going back to the 1870s suggests real interest rates have fallen over recent decades because central banks have kept their policy rates low. Central banks say there is a "natural" rate of interest determined by the savings and investment balance that they simply try to follow.

"We may need to adjust monetary policy frameworks accordingly," he said. "Here, I highlighted the desirability of greater tolerance for deviations of inflation from point targets while putting more weight on financial stability."

Write to Paul Hannon at paul.hannon@wsj.com

Globalization is the most likely explanation for surprisingly low rates of inflation, suggesting that central banks should be patient in seeking to meet their targets and avoid providing too much stimulus, a senior official at the Bank for International Settlements said Friday.

The bank's advice comes as the global economy has accelerated this year, while unemployment rates continue to fall across developed economies. Despite that, inflation rates across the Group of 20 largest economies have eased and stand at levels last seen in 2009, when the world was just starting to emerge from the sharp economic downturn that followed the global financial crisis.

Central bankers are puzzled at the breakdown in the economic relationship between activity and prices.

Federal Reserve Chairwoman Janet Yellen Wednesday acknowledged the inflation shortfall had proved more persistent and was more broad-based than officials had anticipated. "I can't say I can easily point to a sufficient set of factors that explain this year why inflation has been as low," she said.

Claudio Borio, who is chief economist at the industry association for central bankers, thinks the BIS has nailed the culprit: Globalization, a process that took off from the 1980s and has seen many large companies spread their activities and associated jobs across an increasing number of countries, creating what are known as "global value chains."

"One would expect the entry of lower-cost producers and of cheaper labor into the global economy to have put persistent downward pressure on inflation, especially in advanced economies and at least until costs converge," he said in a speech.

The BIS has advanced this view with increased confidence over recent years, citing a mounting body of evidence from its own research and that of other economists. Some leading central bankers are now giving it greater credence. In a speech Monday, Bank of England Gov. Mark Carney said globalization has weakened the link between spare capacity in national economies and their inflation rates.

Mr. Borio said the influence of globalization on inflation has implications for central-bank policy.

"To the extent that disinflationary pressures result from forces such as globalization or technology, they should be generally benign: They would reflect favorable supply side developments as opposed to damaging demand weakness," he said. "At a minimum, this suggests lengthening the horizon over which it would be desirable to bring inflation back toward target."

In the current context, that would mean providing less stimulus to the economy than many central banks are now offering.

Mr. Borio offered another argument for running tighter policies, citing BIS research that suggests central banks have a much larger influence on real, long-term interest rates than they like to admit. Rather than being determined by the balance between savings and investment, Mr. Borio said an examination of the record from 19 countries going back to the 1870s suggests real interest rates have fallen over recent decades because central banks have kept their policy rates low. Central banks say there is a "natural" rate of interest determined by the savings and investment balance that they simply try to follow.

"We may need to adjust monetary policy frameworks accordingly," he said. "Here, I highlighted the desirability of greater tolerance for deviations of inflation from point targets while putting more weight on financial stability."

Write to Paul Hannon at paul.hannon@wsj.com

(END) Dow Jones Newswires

September 22, 2017 22:54 ET (02:54 GMT)