Marc Levinson

Tag: Inflation

  • Of Value Chains and Inflation

    What do central banks have to do with value chains? Traditionally, not much. I think that’s one reason for the resurgence of inflation in many countries during the COVID-19 pandemic. There had been little study of the connection between global value chains and monetary policy, so when disruptions in international trade flows began driving up prices in 2021, central bankers were uncertain about what to do. While politicians are playing a typical blame game—in the United States, Republicans have pinned the inflation surge on the Biden Administration’s spending, while Democrats point to the massive increases in shipping costs and import prices—something of a consensus seems to be emerging among economists that the responsibility for the unusually high inflation rates from 2021 through 2023 lies with central banks. 

    The question of how central banks should respond to value-chain disruptions has become the subject of serious study. One paper published earlier this year finds central banks’ interest-rate increases more effective in taming inflation and less damaging to economic growth in the midst of supply-chain disruptions than under more normal conditions. A different analysis, updated in November 2024, agrees that strained supply chains strengthen the effectiveness of monetary policy in controlling inflation. An International Monetary Fund study of 29 African countries argues that while central banks can’t keep supply-chain disruptions from driving up prices of traded goods, they can limit the impact on non-tradable products by raising interest rates quickly. An interesting paper based on European data finds that the greater a country’s role in international value chains, the more quickly the central bank needs to tighten monetary policy in the event value chains become unsettled.  

    The implication of this research seems to be that the Federal Reserve and other central banks should not sit on the sidelines if value-chain disruptions start driving up inflation. During the pandemic, they should have begun hiking interest rates sooner than they did. At the end of 2020, the members of the Fed’s Open Market Committee, which sets interest rate policy, projected that consumer prices would rise only 1.7% in 2021, so they took no action when value-chain tangles drove up their favored inflation gauge, the personal consumption expenditures price index. That’s why U.S. consumer prices soared, rising about 8% between January 2021 and the Fed’s approval of a very tentative interest-rate increase in March 2022. The bottom line seems to be that there’s nothing about global value chains that makes it intrinsically harder for central banks to control inflation.  

  • Fifty Years After Car-Free Sundays

    Some events from your youth stick with you. For me, one such memorable event occurred 50 years ago, on November 4, 1973, when the Dutch government responded to the OPEC oil embargo that arose from the Yom Kippur war by banning driving one day a week. As I write in An Extraordinary Time, “University students spread blankets on the motorway and picnicked to the sounds of a flute. Young children raced through stoplights on their roller skates. From Eindhoven in the south to Groningen in the north, the streets of the Netherlands were nearly free of cars — aside from those of German tourists and of clergy who, by special dispensation, were allowed to drive to church.” Car-free Sundays soon spread across Europe. Sporting events were cancelled. Indoor swimming pools were closed. It was the start of a bleak era.

    In 1973, no one realized just how bleak that era would be. The general diagnosis was that taming inflation or stabilizing exchange rates would make the world economy boom again. Policies involving generous social spending and heavy government intervention in the economy, which had been employed around the world since the 1940s, no longer assured full employment and higher living standards. A backlash drove politics to the right, where leaders like Margaret Thatcher and Ronald Reagan promised that smaller government, deregulation, and a clampdown on inflation would get economies moving. But that didn’t work out so well either.

    The reason? An economy’s long-run growth depends mainly on higher productivity, and this isn’t something politicians can simply order up. Productivity growth relies heavily on innovation and business investment, but investment in the wealthy economies slumped for two decades after 1973, while innovations such as microprocessors had little economic impact until the internet age began in the 1990s. Workers’ productivity improved less than half as fast after 1973 as in the decades before, which is why families in much of the world no longer sensed that their lives were getting better.

    Half a century after the year of car-free Sundays, the world seems to be mired in a productivity slump once again. The stagnation of living standards plays out in anger and unrest in many places. Perhaps stagnation will drag on — but then again, perhaps innovations such as clean energy and artificial intelligence will bring prosperity anew. Golden ages usually end unexpectedly, but they often arise unexpectedly as well.

  • Disconnect

    If you believe what you read, 2022 will be a banner year for the freight industry. Wall Street analysts are bullish on container shipping. Logistics experts foresee strong demand for goods leading to continued supply-chain chaos. Ship lines, enjoying profits that were unimaginable only a year or two ago, are ordering new vessels at a record pace. Trucking companies are poaching one another’s drivers. Ports are rushing to deepen their channels and make space for bigger terminals, and new distribution centers seem to be under construction everywhere.

    I don’t understand, though, how anyone could have a view about the prospects for trade and supply chains without having a view about the world economy. There’s a disconnect between the optimism about trade and shipping and the current economic reality.

    Two years ago, as I like to remind people, ports, ship lines, land transporters, and even distribution centers on several continents were mired in excess capacity. The COVID-19 pandemic changed that. Governments, fearful of a deep depression, massively stimulated their economies by handing out money to businesses and families. Central banks pushed short-term interest rates close to zero and loaded up on bonds to push long-term interest rates down as well; millions of homeowners took advantage of the opportunity to reduce their monthly payments by refinancing their mortgages, freeing up even more money for other purposes. Consumers in the wealthy countries, their incomes largely intact but their favorite restaurants and vacation destinations out of reach, abruptly shifted their spending to goods, especially durable goods.

    But take a look now.

    -Central banks, led by the Federal Reserve, are starting to tighten monetary policy by scaling back their bond portfolios and pushing interest rates up; even the Bank of Japan, which has kept its short-term interest rate at or below zero since 2011, is preparing to change course. As rates tick higher, the wave of mortgage refinancing that bolstered so many U.S. households’ buying power has crested, while the air is coming out of the property bubble that has supported the Chinese economy over the past several years.

    -Governments are becoming more cautious about pumping money into their economies as inflation-fighting becomes a priority. Inflation is already eroding buying power, and less generous payments to workers who lose their jobs will further crimp consumer spending.

    -Many of the families that binged on exercise bikes and lounge chairs and extra-wide-screen televisions over the past year are done with durables. They’re ready to return to their normal, services-heavy spending habits, and the impending drop in COVID cases will encourage them to do so.

    All of these factors are likely to retard spending on the sorts of products that fill container ships and freight trains and over-the-road trucks. All along the supply chain, the return to normalcy may come as an unpleasant surprise.