Inflation (re)targeting

Central banks by and large try to pin inflation to 2%. When prices rise above that, central banks lift rates, people lose jobs, the economy slows and prices slink back down. The higher inflation, the harder it is to muscle back down. Going from 8% to 4% will be tough and take time. Going from 4% to 2% will be even tougher, especially because by then, many will have lost jobs and the economy will be stalling. Why not make it a little easier and raise the target slightly?

Two great pieces in the FT over the past week on the issue.

Ethan Wu in the FT lays out the temptation for central banks succinctly:

It’s no large leap to imagine a scenario where inflation is falling but still above target, while unemployment is rising but not yet recessionary. The political pressure to loosen policy would be immense. The Fed might conclude raising its inflation target, or at least acting chill about enforcing it, is the best of a bad set of options.

Well, people might not believe the new target, goes the counter argument. If people suspect the central bank will goes easy on inflation today, they’ll expect the same again tomorrow. The result is inflation tends to stick around.

Still, the idea of lifting the inflation target slightly to 3% or 4% is gaining traction. In an opinion piece last November Olivier Blanchard, an economist who has banged this drum since at least 2010, dusted off the idea. He spoke to the FT again about whether changing the target will make people distrust central banks:

I think, in the right environment, a one-time goalpost move would be credible. There is no slippery slope here. It is clear that the earlier conclusions and computations that 2 per cent was the right target, and the probability of hitting the ZLB was small, were wrong. I think any reasonable economist, including [Harvard’s Kenneth Rogoff and Gramercy’s Mohamed El-Erian], agree about that. I think there is zero risk of moving the target further and further. I heard the same argument about credibility when central banks started QE.

I share Blanchard’s skepticism about slippery slope arguments. Trust does not grow in a vacuum. I treat differently the friend who repeatedly borrows and fails to repay money, to the one who faithfully repays me, but one day comes in tears, to say they lost their job, and need more time. Context matters, history matters.

Andy Haldane, former Bank of England chief economist argues for a third way. Central banks should fudge the issue and promise to get back to 2% eventually. He sees the 2% target as a relic of an era where inflation was kept low by globalization (cheap transport / cheap labour, predominantly in China). That’s over he says, and we’re now in an era where inflation will be buoyed up (trade wars make transport expensive and Chinese workers want higher wages). The 2% target should be shelved until this passes.

But the line is thin between a permanent change and a pause for an undefined amount of time. If they’re both likely to undermine credibility, better to make the change and be done with it.

Geopolitics and the energy transition

From today’s big read in the FT:

But is the geopolitics of energy really about energy?

To link geopolitics and conflict to a particular material thing is to miss the point a little. There is not a fixed set of objects we fight over, such that the sudden super-abundance of one reduces conflict as a whole. Humans have fought wars over salt and spices, cotton and coal. Better shipping routes to the spice islands, or alternatives to coal did not eliminate conflict so much as displace it elsewhere. Tensions arise over the valuable, the scarce, the unevenly distributed (and much else). A geopolitics of carrots is possible should they meet those conditions.

Instead we should be asking, what things and places meets those conditions in a world where energy is super-abundant. What do societies with an abundance of energy make, do, and look like? What will they care about, be willing to risk lives and treasure for? One thing missing from the article is services. Geopolitical thinking is still deeply attached to the material world, but we need to understand how increasingly digital (dematerialised?) and service driven societies change traditional geopolitics (if at all)?

The article outlines some of the new(ish) commodities that will power the renewable revolution, like cobalt and copper. This in turn will shift the geography of geopolitics, perhaps the corridors of electricity transmission will replace the sea-lanes transporting oil (and perhaps I was overhasty in criticizing those who think Eurasia is the future of geopolitics).

Well worth reading!

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Big Meat in the FT

I was left confused by “Big Meat: facing up to the demands for sustainability.” Surely this is not the same FT which so relentlessly pursued Wirecard?

The meat industry, as presented in the article, seems combative, not reflective. Cattle heiress Josie Angus tells us official sustainability reports are “apologies to ‘virtue signallers,’ before using climate sceptic talking point: “Our climate has always changed.”

It is unclear what the meat industry is facing up to, because it certainly isn’t sustainability. The article reports that it has been 15 years since the emissions case against the meat industry was made, but 3/4ths of the industry still “have not declared or put in place reduction targets.” The article even quotes an academic saying most of the industry has no plan, and won’t have one “unless people say this is real.”

Is that still in question?

What we have instead is a billionaire meat heir – educated at Harvard AND Stanford – who has been given the sustainability officer sinecure at his family’s company.

Nor is it only the industry’s intentions that are given such a gentle hearing. Brazilian meatpacker JBS, which stands accused of deforesting the Amazon, has pledged to use a digital ledger to clean up its supply chain; a technology the FT itself is skeptical about.

It is good the meat industry is slowly waking up to its environmental impact, but readers might be better served by a more discerning tone next time.

Beware the fair-weather fiscal friend

As I’ve discussed before, a change is in the air for fiscal policy. The FT has done a mea culpa and said “the aim of balancing the budget can, at least temporarily, be dropped.” This is good news for those who have waged the long and lonely war against the fiscal hawks, but I want to urge caution about over-interpreting the new shift in fiscal policy.

There are two ways ideas can shift. First, the assumptions and/or internal logic of an idea can be rejected wholesale; the idea’s core can be negated. Ptolemaic astronomy, which held the Earth was the center of the universe, is gone without reservation, caveat, or condition.

But ideas can also change in a more gentle fashion. The core remains, and where it fails to explain, special caveats, a long list of “buts” “ifs,” and asterisks, are appended. Circumstantial reasons are proposed for why the idea does not work; perhaps the idea only works in “normal times,” and today is not; perhaps it only works when people behave a certain way, and today they are not. At some point, it is presumed, reality will again dance to theory’s tune.

This second type of change is fragile and skin-deep. The special conditions and circumstances can be jettisoned to reveal the original core. If Ptolemaic astronomy were only wrong because we were temporarily passing through a heliocentric phase, we should not be surprised to see its advocates return once they deemed the phase over.

Much of the change in fiscal policy is of this second kind. Exceptionally low interest rates, overextended monetary policy, and a pandemic induced slump are special circumstances that temporarily waive the normal logic, but they do not challenge it. The logic of balanced budgets and restrained fiscal policy still holds in “normal times” (oh those halcyon days!), we are just living through a special period that allows us to temporarily deviate from the optimum.

This colors the attitude of new converts to other parts of the consensus. As the FT’s article makes clear, a temporary shift in circumstances is no reason to change other parts of the consensus, for example changes to central banks are out of the question – “The facts have changed, but not everything else should.”

The danger is these temporary changes can be reversed quickly, at which point the old logic lurking in the background will return in force.

We should not be naïve about these processes being purely fact-based. Facts do not speak for themselves, and interpretation is complex. The US fell below estimates of full employment in 2015, but it took another four years for the Fed to change its approach to unemployment. The FT made much about sensible people changing their minds with the facts, but as Robert Skidelsky’s letter makes clear, the facts haven’t changed, it is only the FT’s interpretation which has.

Low rates, low growth, and low inflation have relaxed many of the distributional and political tensions around macroeconomic policy, and made this entente possible. Subdued inflation has allowed the financial sector to acquiesce to expansionary policy, but do not expect that to last should it pick up again.

Take last week’s fiscal framework from Orszag, Rubin, and Stiglitz (here). While they agreed on what should be done now, they were divided about the post-recovery period – “once we’re at full employment” (never mind that no one knows where it is). Rubin trotted out the warning he has been telling for thirty years, about how out-of-control US debt will cause a crisis of confidence, and a massive currency crisis. Never mind that the opposite has happened. He sounded like the old Marxists, who, when asked why the forces of history had not yet delivered the inevitable revolution, would say “just wait.”

It is a good thing that fiscal policy is experiencing this renaissance, but we should remember that many of its new friends are fair-weather.

Intel, chip manufacturing, and power

The FT reports that hedge fund investor Third Point wants Intel to divest its microchip manufacturing business. Today Intel both designs and manufactures chips, but is increasingly falling behind new chip manufacturers in Taiwan and Korea.

Why should we care about arcane maneuvering in the chip industry?

Two points to take note of:

  • The design and manufacture of advanced semiconductor chips are an important front in the ongoing tech/trade war between China and the US. Even were Intel to divest, the immediate geopolitical consequences may be mild. The cutting edge manufacturers are still located in allies like Korea and Taiwan, allowing the US to use political pressure to block access for Chinese companies, forcing them to rely on technologically inferior domestic chip manufacturers.

    In the longer term however, China’s efforts to bootstrap its own semiconductor industry will probably bear fruit. This could make the US vulnerable to disruptions, for example in the event of an invasion of Taiwan.

  • Markets reacted positively to the prospect of Intel divesting itself of manufacturing, pointing to tensions between the respective approaches of corporate America and Congress over China. Even as geopolitical competition becomes a bi-partisan norm, parts of American industry continue to see a future in China. Apple has kept manufacturing there, while the financial industry is desperate to get a foothold.

    The fact that this tension has resolved itself almost entirely in favor of the state’s new belligerent policy suggests a shift in the relationship with capital. At a minimum, we may need to reconsider the familiar narrative of unlimited corporate power – at least when it comes to aspects of geopolitics.

    What could be an explanation? As this insightful piece on Brexit argued, as ‘national capital’ is increasingly foreign owned, its interests may diverge from the more parochial interests of the state. Does the transformation of conservative parties downwards, into vehicles for parochial nationalism, have a causal parallel in the upwards dissipation of ‘national capital’ into a global network?
Do we need to rethink this familiar image?
(See more here)

Sustainable investing

Investments which take broader environmental or social goals into account are increasingly popular. Under the banner of ESG, finance is trying to offer socially conscious investors an ethical way to make money, and even create social change.

Like all things, the devil is in the detail. From this piece on ESG investing in the FT:

Competition between ESG ratings providers presumably creates arbitrage conditions for opportunistic organisations looking to get a favorable ranking. Done right, initiatives like the EU’s new green investment taxonomy will help address the problem.