Unfortunately, the European Central Bank (ECB) does not read the blog, or yet subscribe to ‘The pH Report’. If it did, it would have been forewarned back in August that a collapse in oil prices was potentially about to provide the catalyst for the arrival of deflation.
Instead, as the Minutes of its critical January meeting highlight, it was caught off-guard, suddenly realising that the region faced the risk:
“Of too prolonged a period of too low inflation. This, in turn, raised the possibility of deflationary forces setting in.”
Of course, the ECB was not alone in making this mistake. Many companies and investors also fell victim to the illusion of “anchoring”, first identified by Nobel Prize winner Daniel Kahneman. They believed prices would remain at $100/bbl, because they had been at that level since 2011.
Sadly, the ECB then compounded its error by increasing the size of its quantitative easing (QE) programme, arguing:
“Purchases of sovereign debt appeared to be the only remaining instrument of sufficient scope to provide the necessary monetary stimulus to deliver on the ECB’s price stability objective”
Yet common sense tells us that printing money is not the same as printing babies. And only babies can create long-term demand, not monetary policy.
One problem for the ECB, and other Western central banks, is that China’s President Xi has realised that stimulus is the equivalent of ‘pushing on a string’ in terms of creating long-term demand. His ‘New Normal’ policy means it is now exporting deflation to the West, as the chart highlights:
- China’s producer price index has been falling for nearly 3 years, and is now at -4.3% (red line)
- China’s role as ‘manufacturing capital of the world’ means its lower prices add to deflationary pressure in the West
- Eurozone (blue) and US Consumer Price Indexes (green) are now negative as both regions enter deflation.
A second problem is closer to home. Today’s ageing Western BabyBoomer populations already own most of what they need, and their incomes are declining as they enter retirement. So growth is inevitably slowing.
Slow growth and deflation create a toxic combination for debt.
We analyse these issues in more detail in the latest edition of ‘The pH Report’:
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It highlights key elements of the Great Unwinding of policymaker stimulus now underway – China and oil prices
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And it suggests 5 Critical Success Factors for companies and investors who wish to survive and prosper in today’s New Normal world
Please do contact me at phodges@iec.eu.com if you would like details on how to subscribe.