Inflation - Will it persist as a result of demographic changes?
Disclaimer- The below is taken from today's Washington Post article written by Tom Fairless.
This morning on the Washington Post I read an article on the findings of British Economist Charles Goodhart in his book 'The Great Demographic Reversal: Ageing Societies, Waning Inequality, and an Inflation Revival' published in 2020. Prior to publishing this book, some of Goodhart's accolades include working in the central bank under the Thatcher era and proving the link between money supply and inflation to be unreliable, leading to them being later abandoned in future money-supply models used by the central bank. He also helped former British colony, Hong Kong, peg their currency to the U.S. dollar which brought an end to their currency crisis and has remained in place for nearly four decades.
The headline forecast being put forward by Goodhart is "inflation in advanced economies will settle at 3% to 4% around the end of 2022 and remain at that level for decades, compared with about 1.5% in the decade before the pandemic." This comes as the latest UK CPI inflation reading stood at 7.0% in March up from 6.2% in February. I break down Mr. Goodhart's observations below.
Previous Trend
-Labour force supplying advanced economies more than doubled between 1991 and 2018
Current Trend
-Working age population shrinking for the first time since WW2 alongside birth-rates
Predicted Response
-Businesses will invest more locally to offset labour shortages and nationalist and geopolitical pressures and curb global supply chains
Economic Impact
-Increases in production cost and local workers' bargaining power
-Global savings will fall as older people spend more than produce and push up interest rate
Goodhart's claim that the present inflation we are seeing is driven by demographic shifts could be supported by recent data. An article published today on
Sky News by Amy Borrett shows, using Indeed Hiring data, that in the last year pay growth has been highest in low-paid roles and jobs that previously relied on EU workers. With jobs that relied heavily on EU workers seeing a wage increase of 11.7% since the start of 2019, which is twice as much as jobs that did not. However, Indeed Hiring Lab's economist, Jack Kennedy, commented that "Pay increases have been driven by employers having to compete to try and bring in staff to fill gaps rather than some economy-wide, systematic realignment." adding that the current pay rises are unlikely to result in the "high-wage, high-skill" economy pursued by the government.
However, looking at demographic shifts is only part of the picture. The age old causal vs. correlation conundrum could come to play. A
recent article in The Times highlighted the findings of Institute of Fiscal Studies' (IFS) senior research economist, Xiaowei Xu commented that the "shift towards lower-skilled occupations is particularly concerning" and could explain why wage growth remains muted, adding that vacancies for drivers rose by 80% in the five months to February and doubled for warehouse workers as online shopping grows in popularity. This compared to the 20% total increase in vacancies seen in the jobs markets for which the IFS found had no correlation with wage growth.
In my opinion, high inflation will not persist as a result of demographic shifts. However, the era of low-wage, low-skilled migrant workers may be coming to an end. As the Washington Post article points out, U.S. manufacturing wages are now just under four times higher than in China, compared to 26 times higher when China joined the WTO in 2001. Rising wages in eastern European economies has also made working for more advanced western European economies less attractive as posted in a
Guardian article in Feb 2019 since 2008, wages in eastern Europe have risen up to 70% but had fallen in the UK by 9%.Given the weakening of the sterling against the euro, the boost to wages for these economies is likely to have continued this trend.
In the long-term as the demand for drivers and warehouse workers continues to outstrip supply, we should see the incentive to invest in automation increase. In the short-term, however, as inflation stays high, largely driven by energy costs, we might see demand start to dwindle, reducing the prospect of increased business investment as shown today on the quarterly
CBI manufacturing sentiment index. As costs soar and the Bank of England balances inflation-curbing vs. recession-triggering rate hikes, the short-term strategies for businesses and households to stay afloat take centre stage as they take the inflationary hit caused by Russia's invasion of Ukraine.
Mooticity Exercises:
Debate: Should the Bank of England hasten to raise rates and reduce balance sheet?
Model: How can we include a demographic shift in labour force supply within an inflation model?
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