Recent data on inflation all around the world has come out lower than expected. This evolution seems to characterize the three major economic regions, although they are each experiencing different cyclical phases.
- In the Eurozone, headline inflation plunged to 1.2% YoY in April, down from 1.7% in March and 2.6% as of April last year.
- In the US, April data showed a slowing to 1.1% YoY, down from 1.5% in March and 2.3% in April 2012.
- In Japan, there was a temporary jump of deflation to –0.9% YoY in March, with National Headline CPI down from –0.6% in February and –0.4% YoY in March 2012. But it was due to a one-off effect (fall out from the comparison of 2012 incentives to buy TVs) and it should not be interpreted as a sign of deepening deflation.
We believe there are four main causes of this low inflation:
- Very slow growth in wages. Wage pressures have remained modest in developed countries. On the one hand, relatively elevated unemployment rates have limited the ability of employees to seek higher wages. On the other, most companies have been in “cost control” mode and therefore, limiting or not assigning wage increases.
- Strong competition between manufacturers of physical goods. Goods inflation is going down everywhere. It is a process that started in September-October 2012. International competition (for an anemic global demand) is holding down goods prices internationally. Hence, at the moment it seems that there is a significant impact coming from lower energy prices (not only oil) and commodities and a clear downward pressure on prices that are subject to international competitive pressures.
- Limited pressures from commodity and energy prices. Core dynamics (CPI less food and energy) suggest that energy price declines played a relevant role in the current phase of low inflation, but not an exclusive one, given that core inflation plunged in the last available month, particularly in the Eurozone.
- The end (for now?) of increases in value added tax (VAT) and administrative prices, in Europe in particular. One significant source of inflationary pressure in recent years, especially in the Eurozone, has been the increase in VAT and administrative prices in many countries, as governments strove to reduce budget deficits while the region experienced financial turmoil. Those increases have now fallen out of the YoY comparisons allowing the headline figures to decline.
Are we going to experience late-cycle deflationary pressure?
- In perspective, things are again different among countries.
- In Japan, the most obvious deflationary example, authorities are trying to defeat deflation with the devaluation of the currency and (starting next year) an increase in the consumption tax (in steps).
- We do not believe that we are headed toward deflation in the U.S. or Europe. However, considering the explanation offered by the IMF in its chapter of the World Economic Outlook, April 2013, dedicated to inflation (“The dog that didn’t bark”), the question seems more complicated than that.