Recent Consumer Price Index (CPI) updates point to a global easing of headline inflation, evident in Australia’s CPI figures for the June quarter, which recorded the lowest rise since September 2021.
But as Dan Farmer from MLC Asset Management drew attention to in a recent market outlook, core inflation remains stubbornly elevated, posing a challenge to central banks worldwide.
“A recent Bank of International Settlements (BIS) report makes sobering reading on this score. Sometimes described as the central banks’ central bank, the BIS has more than occasionally found itself to be a lonely voice warning of dangers while the world has carried on obliviously,” Mr Farmer said.
Namely, the BIS had cautioned against accumulating imbalances that could destabilise global economies at the same time that investors and borrowers were “luxuriating in extremely low interest rates” post-Global Financial Crisis.
“Things might have turned out differently had the BIS’ earlier warnings been acted upon,” Mr Farmer conceded.
“Instead, we have a situation where the BIS comments that ‘interest rates may need to stay higher and for longer than financial markets are pricing in’.”
According to Mr Farmer, while energy and food price inflation has shrunk and global supply chains have largely normalised, this has mainly impacted the price of goods.
Rather, the drivers of inflation have shifted towards services.
This was partly attributed to the share of labour in total costs in services being about twice as large as in manufacturing.
“Given that services dominate wealthy economies like Australia’s, it looks like more hard yards are ahead before inflation can be properly brought under control,” Mr Farmer said.
He also pointed to the lack of discourse surrounding the changing demographic picture as a contributor to the current bout of inflation.
Namely, a recent US study argued that population ageing is the single biggest reason for the US worker shortage, fuelling inflation.
“If current population trends persist long into the future, prices and economic activity will eventually be pushed down as there will be less consumer spending, but until that point is reached, the shrinking US labour force is an inflationary force.”
MLC AM added that as of October 2022, the retired share of the US population was almost 1.5 percentage points above its pre-pandemic level.
“The inflationary effect is clear. When demand for anything exceeds the supply, that raises the price, which in the labour market means wages,” Mr Farmer explained.
Meanwhile, Mr Farmer said that China, which has largely acted as a disinflationary force thanks to the inclusion of its vast population to the global labour market, is now undergoing disquieting demographic trends, and by doing so, has contributed to global inflationary impulses.
“I have previously remarked that investment managers, like us, need to be mindful of issues in front of us, as well as those around the corner. Demographic issues fall into both camps with potentially great significance for financial markets in the years ahead,” he concluded.
