Cheques and imbalance

Is the world economy entering a wage-price spiral?

Both wage growth and inflation are unusually high

The rich world is used to wages and prices growing slowly. 

In the decade after the global financial crisis, inflation rarely exceeded central banks’ targets, and wages seemed unable to grow much faster. 

The spending power of average hourly pay in Britain, Italy and Japan was about the same at the start of the pandemic as it had been in the mid-2000s. 

The fact that American wage growth averaged 2.9% from 2015 to 2019 while average inflation stayed below 2% seemed a rare triumph.

The recovery from the pandemic has brought about a startling change: prices and wages are both surging. 

American hourly pay rose by 4.6% in the year to September while consumer-price inflation of 5.4% is more than wiping out those gains. 

In Germany inflation has reached 4.1% and the main public-sector union is asking for a pay increase of 5%. 

Wages and prices have even picked up modestly in Japan.

The causes of higher prices are clear: rampant demand for goods has met bottlenecks in supply chains, and energy prices have soared. 

Wage growth is more mysterious. 

In most places employment is lower than it was before the pandemic. 

Yet workers seem unwilling or unable to take the abundant jobs that are on offer. 

The labour shortage may reflect how hard it is to move between professions and places as economies go through an unusual adjustment. 

Fear of the virus and the lingering effects of state support for household incomes could be keeping workers idle. 

The pandemic may even have led some people to put family and leisure above their careers.

A hazy understanding of what is driving wages up is making life harder for central banks. 

Most have argued that high inflation is temporary. 

But excessive wage growth could be the next factor to drive up prices, especially if workers demand higher pay in the expectation of future rises in the cost of living—an insurance that exacerbates the very thing it seeks to offset.

To avoid enduring inflation, some combination of three things must happen. 

Firms could absorb higher wages in their margins rather than raising prices. 

Productivity growth could make higher increases in real-wages sustainable. 

Or idle workers could return to the labour force, dampening wage growth.

In the popular imagination workers’ share of the economic pie has room to grow at the expense of profits. 

But recent research suggests that labour’s share of the value created by firms has in fact been fairly stable in most rich countries during recent decades. 

We estimate that it has already risen by one percentage point on average in big rich countries during the pandemic. 

There may not be very much scope for further increases

Higher productivity growth is a reasonable hope. 

Output per worker has risen in America since the start of the pandemic. 

The digitisation brought about by the pandemic should boost living standards, particularly if it reduces the need to live near expensive cities to get good jobs. 

The trouble is that time lags make it hard to base policy on productivity trends. 

They are hard to measure in real time and it takes about 18 months for central banks’ decisions to fully feed through into the economy.

That means policymakers should focus on the labour supply. 

Its recovery has been disappointing so far. 

There is surprisingly little sign that the end of emergency programmes, such as America’s extended unemployment insurance and Britain’s furlough scheme, has increased the number of people looking for work. 

Perhaps, though, as bank accounts run dry and the pandemic abates, some slack will reappear in 2022, causing wage growth to slow. 

Even more than usual, monetary policymakers should keep their eyes fixed on jobs.


How Xi Jinping’s China differs from Mao’s

A crackdown on superstition is about control, not smashing tradition

For several big reasons it is misleading, even morally indecent, when commentators assert that China is embarking on a new Cultural Revolution. 

It is true that the Communist Party is today more visible and assertive than at any time since Mao Zedong’s death in 1976. 

After Xi Jinping became China’s leader in 2012, he unblushingly re-emphasised the party’s authority over everything from the machinery of state and the armed forces to the judiciary, universities and news media.

It is also true that the rich and famous are under harsher scrutiny than they have known for decades. 

Tycoons and film stars have received painful reminders that they enjoy their success at the party’s pleasure. 

Some have lost fortunes or seen careers ended for defying China’s leaders, or for provoking public opinion with displays of swaggering privilege. 

Others have hastened to donate money and time to patriotic causes. 

New rules ban effeminate actors from television and curb how many hours youngsters spend on video games. 

State power is now invested in one man, Mr Xi, in a way not seen since the Mao era. 

Whether issuing textbooks in Xi Jinping Thought to six-year-old children or using smartphone apps to ensure that officials study Mr Xi’s wisdom, the leader’s sternly paternal presence is felt in every corner of life.

Yet this is not a return of the Cultural Revolution. 

Most simply, between 1966 and 1976 Mao and his inner circle unleashed such horrors on China that it dishonours their victims to take that decade’s name in vain. 

Scholars outside China, drawing on often-secret official reports from the 1980s, estimate that 1.6m died, with the lives of many millions more ruined. 

Much attention has been paid to the youngest Red Guards: Mao-revering students or youths who persecuted everyone from ex-landlords to intellectuals and artists, religious believers and, not least, officials accused of being reactionary. 

But more casualties died in fighting between rival, adult Red Guard factions or with army units. 

The violence at times resembled a civil war, set in motion after Mao came to doubt the loyalty and revolutionary fervour of the ruling establishment. 

In contrast, Mr Xi and his inner circle are iron-fisted party-builders, not friends to rebels. 

They have purged internal rivals, dissenters and the corrupt. 

The party is now attacking what it deems the excesses of capitalism. 

The goal is stability and conformity, with all China marching in lockstep towards national greatness.

Those are large reasons to avoid miscasting Mr Xi as a second Mao. 

But there are myriad smaller ones, too. 

By way of a case study, consider an ongoing campaign against “superstitious” ways of mourning the dead, specifically by burning imitation banknotes and paper models of goods that loved-ones might need in the afterlife. 

In addition to funeral offerings, goods are burned for the dead at various annual holidays. 

One coming soon is Hanyi Jie, or the Winter Clothing Festival, when paper replicas of warm clothes may be seen burning on city pavements or in village courtyards. 

In August nationwide debate was sparked by news reports that Shanxi, a northern province, had drafted rules banning the making or selling of funeral supplies, such as paper models of people, horses and houses; or imitation money. 

This was not the first such online uproar. 

Other provinces, cities and counties have tried to stop or restrict the burning of paper offerings several times. 

Officials call the practice superstitious, a source of air pollution, a fire hazard and extravagant, scolding citizens to spend money on caring for the old, not when burying them.

China’s best-known paper funeral-goods come from one place. 

Mibeizhuang, an unlovely village in Hebei province 120km south of Beijing, was famed for silk flowers as far back the Qing dynasty. 

Locals boast that wreaths at Mao’s funeral came from Mibeizhuang. 

The village became a nationwide hub for funeral-goods when market reforms began in the 1980s. 

When Chaguan visited on a recent weekday, shopkeepers had bundles of paper suits and fur-collared coats ready for Hanyi Jie. 

A group of four men, funeral organisers from Wu’an, a rural town 400km to the south-west, loaded a small truck with cardboard models of trees covered in gold coins, food-stuffed fridges, televisions and pink, colonnaded mansions. 

A set of such models sells for less than 50 yuan ($7.76).

For centuries in China, honouring the dead lay at the heart of codes of virtuous behaviour. 

In imperial times, children studied models of filial piety including Dong Yong, a man so poor that he sold himself into servitude to bury his father properly. 

During the Cultural Revolution, ancestral and clan temples were ransacked, while family altars in Chinese homes were smashed by Red Guards or hidden for safety by their owners. 

When victims of Maoist violence were burned or buried without ceremony, the lack of proper rites was an extra stab of agony for grieving families.

The party will not admit it, but Mao traumatised China

Today, once-cherished customs have a markedly weaker grip. 

Asked whether customers believe that burned funeral-goods reach relatives in the afterlife, traders in Mibeizhuang are incredulous. 

“What day and age is this? It is just a tradition,” says one. 

A third-generation seller of paper offerings scoffs: “I don’t even believe in it. 

Spending money on this stuff is like throwing it away.”

The traders have watched injunctions against their industry tightening for years, especially in cities. 

They are cynical, saying that officials who oppose burning funeral-goods will sneak home to burn paper models for their own parents. 

But they are resigned to the possibility that their trade may end one day. 

“We set off firecrackers for thousands of years. 

Now it is not allowed and has stopped,” explains one, calling modern-day Chinese “obedient”.

It is hard to start new rows about feudal superstition, precisely because the Cultural Revolution tore up so many roots that tied Chinese to the past. 

Today’s China is bossy, socially conservative and relentlessly controlling. 

Its rise as an authoritarian giant is disruptive enough without mistaking it for Maoist fanaticism. 

The RBA’s Defeat Down Under Should Worry Central Bankers

A sudden surge in Australian government bond yields should have other monetary authorities watching their backs

By Jacky Wong

The RBA said it has scrapped its “yield curve control” policy./ PHOTO: DAVID GRAY/BLOOMBERG NEWS

The bond market has just notched a win in its tussle with the central bank of the land Down Under. 

As inflationary expectations intensify globally, that could be a preview of things to come for many other central banks world-wide.

The Reserve Bank of Australia said Tuesday that it has scrapped its “yield curve control” policy, which aimed to peg 2024 government bond yields at 0.1%. 

The policy was introduced last March at the height of the initial spread of Covid-19 internationally and has been tweaked a few times since.

Tuesday’s announcement, however, was different: more of a concession to reality than anything else. 

The central bank had already effectively abandoned the policy by not stepping in as the market ran amok over the past few weeks.

Yields on two-year Australian government debt rose to 0.78% last Friday from 0.1% at the beginning of October. 

The surge picked up steam last week after inflation numbers came in higher than expected. 

The RBA’s governor said Tuesday that the central bank faced a difficult choice between doing nothing or stepping in to defend a yield target that was losing credibility.

Ironically, the RBA’s inaction was the main reason the target had lost that credibility. 

The RBA’s board might have made the same decision at Tuesday’s monetary-policy meeting anyway, since last Wednesday’s annual trimmed core inflation reading of 2.1% edged back into the RBA’s targeted range of 2%-3% for the first time in years. 

But having already quietly capitulated to the market move, the bank would likely have been in for an even costlier battle with speculators if it had tried to reconstitute the target ex post facto—especially if future inflation readings kept coming in above expectations.

The episode is a warning for other central banks, which could soon be facing a multitude of similar challenges from the market if inflation keeps surprising on the upside. 

Short-term bond yields have risen globally, though not as dramatically as in Australia. 

Two-year bond yields in the U.S. are around 25 basis points higher than two months earlier, for example.

The latest economic figures do point to higher inflation in many places. 

The difficulty for the central bankers, of course, is to judge whether such inflation is transitory—due to temporary supply-chain issues, for example—or more structural. 

Central banks may eventually agree that inflationary pressure is real enough to warrant rate increases, but the last thing they want is to be seen as capitulating to market pressure rather than relying on their own judgment.

More real-time tests of their nerve seem very likely soon.

The Great Supply-Chain Massacre

It is unclear whether current widespread product shortages are merely a temporary disruption or evidence of a global production meltdown. But today’s supply shocks offer striking parallels with the 2008 global financial crisis, and may require a similarly bold policy response.

Diane Coyle

CAMBRIDGE – In the period leading up to the 2008 global financial crisis, a few prescient voices warned of potentially catastrophic systemic instability. 

In a famous 2005 speech, Raghuram G. Rajan explicitly cautioned that although structural and technological changes meant that the financial system was theoretically diversifying risk better than ever before, it might in practice be concentrating risk. 

At the time, Rajan was mocked; former US Treasury Secretary Larry Summers was not alone in thinking him a “Luddite.”

This episode comes to mind because of the widespread shortages emerging around the world. 

Markets for gas, truck drivers, carbon dioxide (extraordinarily), toys, ready-to-assemble furniture, iPhones, computer chips, and much else have been affected. 

Will these supply shocks prove merely a temporary disruption as the global economy recovers from the impact of the COVID-19 pandemic? 

Or are we instead witnessing a meltdown of the global production system? 

And in the latter case, what would be the supply-chain equivalent of leading central banks’ interventions to prevent a global financial collapse in 2008?

The parallels between today’s supply shocks and the 2008 financial shocks are striking. 

Prior to each crisis, the prevailing assumption had been that decentralized markets would provide adequate resilience, whether by spreading financial risks or ensuring a diversity of alternative supplies.

In the energy sector, for example, there has been a steady shift away from national self-sufficiency toward reliance on global markets. 

The European Union started the “liberalization” process in 2008, enabling new competition in gas and electricity in what was intended to be an EU-wide market. 

Although some had previously expressed concerns about the implications for security of supply, policymakers pressed ahead with legislation to entrust European economies’ energy imports to global markets.

But most analysts – and policymakers – failed to anticipate that the global markets for gas and many other commodities would turn out to have bottlenecks or gatekeepers. 

The supposed diversification of supply resulting from liberalization frequently seems to be illusory. 

For many products, including semiconductors or CO2 (a fertilizer by-product) for food processing, supplies have become more concentrated. 

And the splitting of global production chains into ever more specialized links over several decades has led to unexpectedly close correlations between supply shocks in different industries, as with fertilizer and food or semiconductors and cars.

In addition, some shortages (such as those of truck drivers and shipping containers, or gasoline in the United Kingdom) directly affect the logistics connecting the links in supply chains. 

As a result, vulnerabilities have rapidly become mutually reinforcing and self-amplifying. 

The global production system’s highly specialized, just-in-time design delivered substantial benefits, but its weaknesses are now evidently greater.

So, how should policymakers think about this lack of system resilience, and what can be done to counter it? 

Northwestern University’s Benjamin Golub has shown that queuing theory offers insights into how a small change in a well-functioning system (such as cutting two supermarket checkout lanes down to one) can lead to huge increases in wait times. 

Conversely, introducing a little slack into a system adds a lot of resilience.

Likewise, the classic cobweb model shows how time lags can destabilize markets and trigger large fluctuations in demand and supply. 

If demand is less responsive than supply to price signals, and expectations about the future prove incorrect, then a delay in suppliers’ responses drives volatility.

W. Brian Arthur’s famous El Farol Bar problem, which combines decisions made over time and the need to form expectations, produces a similarly unstable outcome. 

And as McKinsey & Company’s Tera Allas has pointed out, system dynamics was invented to think about supply chains as complex, non-linear dynamic systems.

So, there are plenty of mental models for understanding the current shortage problem. 

The pressing challenge is how to restore stability and ease the shortages so that people are not facing a holiday season with no toys, turkeys, or gas.

A top priority is to have better data and better business intelligence in government. 

Even after 30 years of globalization, there is astonishingly little detailed, publicly available information on product flows in global supply chains. 

Ministries need to restore the kind of engineering-based industry knowledge that was more common back when industrial policy was considered a key government function.

But in the short term, decentralized markets and price signals are the problem, not the solution. 

Governments will need to step in – whether by deploying soldiers to drive gasoline tankers or providing production subsidies – to mitigate some of the shortages.

When the immediate supply concerns abate, firms and policymakers must consider what kind of insurance or slack they should build into the production system over the longer term. 

Just as banks needed to increase their equity buffers after 2008, we perhaps now need to step back from just-in-time production and redefine productivity in light of supply-chain risks.

Diane Coyle, Professor of Public Policy at the University of Cambridge, is the author, most recently, of Markets, State, and People: Economics for Public Policy (Princeton University Press, 2020).