December 8, 2020

AMW: Global inflation & rates – what the latest research suggests

The prospect of a COVID-19 vaccine being deployed from mid-December (US/UK) is helping drive market expectations of a sharp cyclical rebound in 2021.

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  • At a time of record fiscal and monetary stimulus and as central banks warn to “be careful of removing the stimulus too early”, investors are asking whether inflation will pick up.
  • In this Weekly we review the latest research on inflation and global neutral interest rates from the US Federal Reserve and the implications of this research for how central banks are likely to interpret inflation signals. This may also shed some light on underlying inflation dynamics and whether inflation is likely to pick-up sustainably.
  • The major findings are:
    • On inflation: (1) pandemic-sensitive consumer prices have lifted, but interestingly non-pandemic sensitive inflation has eased, suggesting later disinflationary impacts from COVID-19; (2) inflation expectations have not changed that greatly during the pandemic, suggesting they remain well anchored; and (3) no-one knows where NAIRU is with the latest Phillips Curve estimates showing a substantial flattening in the past 2012 period which emphasises central banks are likely to be re-active rather than pro-active in warding off inflation.
    • On rates: (1) global real neutral rates could be as low as -1.7% with most estimates now at or below zero; (2) demographics and the global savings glut (and associated shortage of safe assets) are still cited as the main drivers for why long-term and neutral have declined; (3) interestingly, real neutral rates tend to decline following pandemics with elevated pre-cautionary savings for up to 40 years! There is though some reason to think why this time might be different.

The week ahead

  • Australia: Business and Consumer Confidence measures the highlight in a quiet week for data: NAB Business Survey is on Tuesday, W-MI Consumer Sentiment on Wednesday.
  • International: Vaccine hopes to dominate markets with the US FDA vaccines sub-committee meeting on Thursday. The other two key events are: (1) ongoing US fiscal stimulus negotiations; and (2) UK-EU trade talks where sticking points remain with politicians briefing “we probably are now in the final few days in terms of deciding whether there can be an agreement”. Datawise: US: a quiet week with only the CPI on Thursday and Uni Michigan Consumer Confidence on Friday of note. EZ: the ECB meets on Thursday with expectations of more QE via the Pandemic Emergency Purchase Program. UK: Monthly GDP for October on Thursday, but UK-EU talks to dominate.

Chart 1: Market-based inflation expectations have lifted, but survey-based inflation expectations have not


Chart 2: Non-COVID sensitive inflation is now easing, suggesting later round impacts are still disinflationary


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