Cushioning the economic landing
But, coming down from high inflation, jobs may be lost
Here’s some good news — there are signs global inflation pressures are easing. The bad news is that, locally, inflation probably isn’t easing yet.
The other bad news is that even when local inflation peaks and starts to subside — hopefully later this year — most prices won’t actually fall.
That’s not the way inflation tends to work.
The cost of things only comes back to a more reasonable level when wages catch up.
That’s the sting in the tail of the inflation problem. It can become a self-perpetuating spiral.
We need wages to catch up without putting more pressure on businesses to keep putting prices up.
Which means we need the tight labour market to ease.
That’s the theme of an excellent but ominous new research note by ASB senior economist Mark Smith.
I’ll come back to that . . . but first that good news.
There are signs that the horrible, global supply-side shocks that kickstarted this inflation mess are starting to settle down.
When it comes to measuring things, financial markets and economists like to break things into three-month quarters.
And if we look at some of the big inflationary drivers like oil, shipping and fertiliser prices across the past quarter then the news is promising.
The benchmark Baltic Dry
Shipping Index is the most heartening indicator. It shows the price of shipping a container has dropped about 30 per cent over the past three months. It’s even 5 per cent down on a year ago. Okay, that’s still about four times the pre-pandemic cost. But it shows we are coming down from the peak.
Commodities that spiked on the Ukraine war are going to appear elevated on an annual basis until March next year.
Still, there are good signs.
Global fertiliser prices are down about 4 per cent across the quarter. Even oil, which admittedly remains volatile, looks reasonably stable across the quarter.
Brent Crude is up 8 per cent since the end of March. But it actually dipped by 2 per cent across the past month. What this data reminds us is that inflation is a measure of the relative change in price.
So once prices have plateaued, inflation rolls out of the relevant data over time. As the world returns to some sort of post-pandemic normality, supply-shock inflation will eventually start to fade into the distance.
There is, as I mentioned, a big caveat around oil. Oil markets remain distorted by the war in Ukraine and measures to curb Russian supply.
But running counter to that is the return of US shale oil production, plans by Opec to boost its production and the prospect of falling global demand as interest rates curb consumer demand. So, touch wood, there are positive signs. But when global inflation stabilises, what we’re left with is the reverberation through the domestic economy.
That is far from insignificant. That’s also the bit we have some control over. We control it by restricting the money supply with higher interest rates to remove demand from the economy. I doubt anyone in government or at the Reserve Bank will want to say it so bluntly but sucking demand from the economy will costs jobs. It’s meant to.
Lower consumer demand will force businesses to cut back. Some people will lose their jobs. Higher unemployment will ease labour shortages, which will take pressure off wage growth. Tough luck if it’s your job. Thanks for your sacrifice.
A reality that is all too easily forgotten in the panic to beat inflation is that unemployment can do much deeper damage to individuals, families and communities.
The very definition of a soft landing should be getting inflation back in check without causing high levels of damaging, long-term, structural unemployment.
But, as ASB’S Smith highlights, from here the labour market will play a pivotal role in shaping the inflation outlook. “Short of a material loosening in tight labour market conditions, there is the risk of annual CPI inflation remaining above 3 per cent for considerably longer than the RBNZ May 2022 forecasts imply,” Smith said. “With inflation looking to be persistent and with the economy already wobbling, the trade-offs facing the RBNZ are likely to be stark.”
In other words, there may be no way around a recession and higher unemployment levels.
For now, ASB still forecasts inflation to have peaked in the June quarter (the data for this is due on
July 16) at 7.1 per cent. From there it forecasts it will ease slowly to an acceptable 2. 9 per cent by March 2024.
ASB — along with most other major economics teams — does not yet see recession as inevitable.
But I suspect the general direction of forecasts leans towards negative downgrades. The Reserve Bank is prepared to hike rates until it sees domestic inflation falling.
We head into this rate hiking cycle with a labour market so tight that anyone losing their job has good odds of being hired elsewhere. The upcoming landing from high inflation looks increasingly more bumpy than soft.
But, as long as we don’t panic, it remains manageable without the price of high unemployment that some were forced to pay in the 1990s.