Thursday, 12 March 2015

Maybe a boom isn't what it used to be

Fascinating webcast of the media conference after the RBNZ's Monetary Policy Statement this morning (if you missed it live, there'll be a recording available here by close of play today).

The big thing I took away was the possibility of structural change - 'structural change' being economese for when the pre-existing relationships in the economy don't behave they way they used to and start doing less, or more, or happening faster or more slowly, or vanish completely, or indeed change to doing the opposite of what used to happen.

This is potentially a big issue for the RBNZ in setting policy. If the old relationships hold about wage and price setting behaviour, then our currently buoyant economy could well be leading to higher prices and wages, especially in the non-traded sector, where people setting prices and wages won't be held in check by the discipline of competition from imports. So the Bank would need to stay in "we're watching you very carefully, yes you over there, we can see you" mode, with the potential stick of higher interest rates in the background to restore order.

But what if that traditional link between boom times and boom time wages is nowhere near as strong? Then the Bank is overworried about something that isn't going to happen, or put another way, it's got monetary policy too tight. And so far non-tradables inflation is looking lower than you might have thought it would be in this strong economy, as you can see in the graph below, taken from the Statement. At the fag end of the mid 2000s boom, non-tradable inflation had blown out to 4.5%. In the current boom, it's 2.5%, and if anything falling.

And maybe the same thing is happening elsewhere. The Bank also included this graph, showing recent wage/earnings growth in the US, where they're having a sustained run of strong employment growth. As the Bank commented (p14), "Despite the significant decline in the unemployment rate over recent years, growth in nominal wages remains low relative to history".

You have to be careful about 'structural change': it can become an easy, lazy and unverifiable, way of explaining anything you didn't expect. But I suspect - and I suspect the Bank suspects - that there's something in this new story of wage and price setting not blowing out in booms like it used to..

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