Central Banks Try To Stay Ahead of the Curve

The phrase “behind the curve” originates from aviation. The “power curve” maps an airplane’s speed to the thrust applied by the engine. This relationship varies with conditions; being behind the power curve can risk stalling or damaging the plane.

A variant of the expression is based on the Gaussian bell curve, which maps a normal distribution. A decision-maker with insight that is below average is said to be behind this curve.

On both fronts, there is growing concern that the world’s central banks are behind the curve. Critics contend that the insight being used to set monetary policy is lagging, and worry that failure to reduce the thrust applied to the economy could allow damaging levels of inflation.

Several important monetary policy meetings took place this week. Inflation was the central topic on each agenda; price levels are escalating very rapidly in most countries. Expectations of inflation have also been moving up, although at a more measured pace.

Weekly Economic Commentary - Chart 1

While each country’s experience is somewhat different, all are dealing with a handful of common factors:

  • Energy prices have surged. Oil prices have risen by about $20 per barrel since the middle of August, and natural gas prices have risen by more than 40% in the United States and by more than 75% in the United Kingdom over the same period. Consumers in the northern hemisphere are bracing for a cold and expensive winter.
  • Food prices have also marched rapidly higher. The transition from eating out to cooking at home and back again has confounded logistics and created periodic gluts and shortages in the agricultural industry. Extreme weather has stunted harvests: the price of wheat is at an eight-year high. And the food industry has certainly been affected by labor shortages, and the rising wages that have resulted.
  • The housing boom is back. Low interest rates, government stimulus, and strong demand for space that will accommodate working from home have combined to push home price indices to record levels. Over the past 12 months, residential property values are up 20% in the U.S, 11% in the U.K., 13% in Canada, and 20% in Australia. These escalations will eventually translate into increases in rent and the cost of shelter, which make up large shares of consumer price indices.
  • Global supply chains are suffering from long-haul effects produced by COVID-19. Delivery times and freight rates have eased a bit in recent weeks, but are still exaggerated relative to pre-pandemic norms. Scarcity has made room for surcharges, which have found their way into the cost of goods.
  • The cost of services is being pushed higher by labor shortages, which are acute in many industries and regions. Total employment is still below pre-pandemic levels in most developed countries, and yet the leverage held by workers seems to be at a multi-year high. With the prices of goods and services escalating, wage demands are sure to rise in compensation (pun intended).

"Transitory" influences on inflation may be with us for a long time.