Central Bankers May Be Concerned By The Death Of An Economic Model At Jackson Hole

Analysts think the death of a major economic concept could dominate discussions as central bankers gather at the annual Jackson Hole symposium on Friday.

It shows that inflation and unemployment have a stable and inverse relationship and is known as Phillips curve, an economic concept developed by New Zealand economist William Phillips.

However, this inverse relationship is seen to be dying with central banks using artificial ways to pump money into the economy in the recent months.

Discussions around the death of the Phillips curve could dominate the Jackson Hole symposium as a number of analysts have warned that this could be risky for the global economy.

“The inverse relationship between unemployment and inflation is dead. The proliferation of low-wage, irregular and insecure jobs means that wage pressures – and therefore spending power – are subdued even as unemployment falls,” Edward Smythe, an economist at Positive Money, said.

For policymakers wishing bring interest rates back to their pre-crisis levels and to unwind quantitative easing, this is bad news, Smythe added.

Unemployment and inflation growth have been the basis for central banks around the world for pegging their monetary policy. Hoping to see unemployment levels go down and inflation go up with some central banks setting a target of 2 percent, were major banks such as the U.S. Federal Reserve, the European Central Bank and the Bank of England.

A downward movement in unemployment rates but inflation lagging gains is shown by recent economic data.

“Earlier this year, U.S. inflation appeared to be grinding higher in the context of steady economic growth and a tight labour market,” Michael Hood, global multi-asset manager at J.P. Morgan Asset Management, said.

“The core CPI inflation rate, which excludes food and energy prices, hit 2.3 percent year-on-year in February. And the core PCE deflator, the index targeted by the Federal Reserve, ran at a 1.8 percent year-on-year clip in that same month, within shouting distance of the Fed’s 2 percent goal. Our forecasts called for ongoing, gradual acceleration. Instead, inflation has gone into reverse during the past several months, with both indices dipping well below 2 percent in year-over-year terms. By some measures, wage inflation has also cooled recently.”

In June, the ECB too cut its inflation outlook. The central bank now anticipates inflation levels of 1.5 percent in 2017, 1.3 percent in 2018 and 1.6 percent in 2019, Mario Draghi, president of the ECB, said. Forecast in March saw inflation reaching 1.7 percent in 2017, 1.6 percent in 2018 and 1.7 percent in 2019.

Meanwhile, a lengthy discussion of the disconnect between inflation and employment showed minutes from July’s ECB meeting. A number of factors that were likely to be of a more structural nature were held to be responsible by the ECB.

“These included changes in labour markets, work contracts and wage-setting processes, benefiting from the reforms introduced in previous years, which could imply a structural break in the Phillips curve,” according to the minutes.

there are a number of structural factors responsible for keeping inflation down in developed markets, several analysts have said on inflation.

These factors include new technologies maximising resource-sharing and stagnant demographics, misallocation of resources due to prolonged low-interest rates and the scars left on the economy and labour markets by the recession, said Alberto Gallo, head of macro strategies and manager of the Algebris Macro Credit Fund, earlier this week.

(Adapted from CNBC)

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