Anyone who stirs up fear of crashes can easily win over the Germans. Especially when it comes to inflation. Quite a few authors have worked their way through the ECB, which is printing more and more money and which should soon raise prices to new heights. But there has always been one problem in recent years: Central banks never followed suit with key interest rate cuts or government bond purchases. On the contrary: Instead of rising prices, disflation has been observed for years, i.e. falling inflation rates.
Now it is not a crash prophet, but rather the economics professor and long-time employee of the Bank of England, Charles Goodhart, who is writing that inflation could come back. He put forward the thesis before the corona pandemic. Now he reinforces her again. And how. For the coming year, he expects inflation of 5 to 10 percent. This is due to the consequences of the corona pandemic, but above all to the fact that the world is facing major upheavals, according to Goodhart and his co-author Manoj Pradhan.
In your book “The Great Demographic Reversal” you describe that the global trends that caused disflation for years are now reversing. An aging population could therefore lead to a massive increase in inflation in the developed economies. But how exactly is that supposed to work?
Globalization has made inflation go away
Typically, inflation should rise when unemployment falls. Because the fewer people out of work there are on the labor market, the higher wages they can demand. After all, companies with higher wages vie for the best remaining workforce in the market. The companies then pass the higher wage costs on to their customers in the form of price increases. So as unemployment falls, inflation rises.
This connection has not existed for years. One possible cause: globalization. Because in a strongly networked global economy, companies for whom wages at home are too high can relocate all or part of their production abroad or purchase primary products from where they are cheapest. That also depresses prices when domestic unemployment is already low.
You can imagine that on a German machine. For a long time, it no longer only consists of German components, but is often only assembled in Germany. Particularly simple preliminary products such as small metal components often come from China. Their price depends on the Chinese labor market, and the price of the entire machine made from Chinese and German components depends on Chinese and German wages. The more pronounced world trade and value chains are between countries, the more inflation is dependent on the global labor market.
It was precisely this that offered more and more workers over the past 40 years. Trade between the western world and China, but also the collapse of the Soviet Union, flooded the world with cheap labor. More and more women also flocked to the labor market. Wages around the world became even more similar. The result: wages and thus inflation in the western world hardly rose any more, according to Goodhart and Pradhan.
As the world population ages, inflation comes back
But now the trend is reversed. World trade has not only stagnated for years, there is also still no global supply of workers. Worse still, in the tightly knit major economies of China, the United States and Europe, the population is aging. So for fewer and fewer people of working age, there are more and more retirees worldwide.
They don’t produce anything, but just like the workers they spend their money. Fewer and fewer people have to work for a similarly high population. When workers become scarce, their negotiating position with employers increases again. So you can ask for higher wages and prices will go up again.
But the old are also getting older. And that’s expensive. Serious illnesses like Alzheimer’s increase the need for health care and medication and drive prices up, Goodhart and Pradhan argue.
But in order for the old to be able to cope with their everyday lives at all, they are dependent on the help of more and more young people. Robots can put together cars that are controlled by artificial intelligence, but they will hardly take care of old people. Now one could say that there are enough people in the world who could immigrate from other countries to care for the retirees in America, Europe and China. But people cannot be packed onto a ship and imported like goods. This is particularly true as long as voters vote for parties that slow down rather than accelerate immigration. The carers would have to come from Europe, America and China themselves. Another process that would raise wages and inflation.
Now all of these processes hit the post-corona world. This is where people will spend the money they saved during the crisis and also drive up prices. What is worse, however, is that countries around the world are highly indebted. If prices were to rise after the crisis, the central banks would actually have to raise key interest rates in order to counteract inflation. But if the national debt is high, there is a risk that, under political pressure, they will pursue a loose monetary policy for too long in order to relieve the debt-ridden governments. That would further increase inflation.
It doesn’t have to be that way
The theses of the authors can be denied. Working life could continue to lengthen, medical advances could make people more productive in old age and reduce health expenditure. In addition, if people worked longer, the ratio of retirees to employed would not increase as much as the authors fear. In addition, governments could weaken immigration laws. The high wages would attract more and more workers from countries with growing populations like India and many African countries to the aging economies. The authors build on a world in which people hardly react to the new challenges.
In addition, it is not just an oversupply of labor that keeps inflation low. The price of oil is extremely low and could remain low as dependency on oil wanes. Technological change also contributes to the deflationary tendencies. Think of smartphone cameras, for example, which lower the price of conventional digital cameras because they are no longer needed. In addition, technical aids increase labor productivity so that companies with technical aids no longer need as many workers to produce the same number of goods. And it is precisely the high debts that not only states have accumulated in the pandemic that could reduce overall demand in the future so that prices fall rather than rise.
One can therefore object to the authors for their arguments quite a bit. But their concerns about rising prices are by no means pulled by the hair. It is up to governments to meet you in good time.
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