Reason for decline in inflation in last 40 years: Monetary policy or Asia joining world economy production?

William White (Former BIS chief economist and DG of Bank of Canada) says we need to ask five questions on world economy:

Fostering a sustainable recovery, in spite of such preconditions, requires answering five questions. First, what public policies have led us to the current unsustainable state of affairs – what I call ‘policy preconditions’ – and should be avoided in the future? Second, what future shocks threaten sustainable growth? Third, what would a more sustainable global economy look like? Fourth, what policies are required to get ‘there from here’? Fifth, how do we – to use John Kenneth Galbraith’s phrase – choose between the ‘unpalatable’ and the ‘disastrous’?

My analysis emphasises the importance of monetary and fiscal policies in both shaping the recent path, and conditioning the future. However, interactions over time between the global economic system and the surrounding political and environmental framework are also crucially important. These interactions imply the need for policies with a much longer-term focus than hitherto. As well, it requires global political leaders able to rise to the challenge of choosing the ‘unpalatable’ over the ‘disastrous’.

Lord Meghnad Desai responds to the piece:

My view on the last 40 years differs from White’s. The great moderation arose out of the stagflation of the 1970s and the monetarist counter attack on Keynesian policies. Lowering inflation became the goal of monetary policy. However, when prices started to come down, it was not due to policy. It was because after the decade’s oil shocks, capital moved away from the North Atlantic shores to Asia. Manufacturing prices, on which Keynesians once blamed inflation (wage rigidity, high mark-ups, monopoly capital, among others) dropped as production moved to China.

White shows that monetary easing was the principal anti-recession tool. When QE was introduced, low interest rates, along with central bank asset purchases, took over.

Despite large amounts of money in circulation, inflation did not rise. The Asian labour force carried on supplying manufactured goods at a flat rate. QE put more wealth in the hands of the asset-rich and exacerbated already rising income inequality. Fiscal policy was still tethered to lowering the debt-to-income ratio in the UK and European Union generally. The consequence was excess savings by the asset-rich. This has now led to negative interest rates. It is as if financial markets are no longer alarmed by debt to income ratios. They are in search of good yields, which are hard to find.

In the meantime, the technological revolution has almost eliminated the threat of inflation. Central banks are desperate to raise inflation rates back up to their target levels. In the days of hard monetarism, the idea of a central banker hoping for higher inflation was beyond the realms of fantasy. The world’s five largest publicly listed companies deal in data – not steel, cars or oil. It is a Schumpetarian process of creative destruction. While the old economy is in severe recession, data companies are making large profits.

The first question that arises is whether the burden of debt will hinder economic recovery, or whether the modern ‘magic money tree’ really exists. Economists wait to see if and when interest rates turn positive, especially real interest rates. The real economy will change as global supply chains are redesigned to mitigate the risk of future disruption and adjust to US-China decoupling.


3 Responses to “Reason for decline in inflation in last 40 years: Monetary policy or Asia joining world economy production?”

  1. Anantha Nageswaran Says:

    Based on the excerpts cited, it is hard to see how Mr. White’s arguments are different from Lord Desai’s. Lord Desai’s arguments have been made by William White in other essays, papers and article White had written. Lord Desai’s point that “when prices started to come down, it was not due to policy. It was because after the decade’s oil shocks, capital moved away from the North Atlantic shores to Asia.” has been made by many including by yours truly.

    To state it immodestly, my first long essay as a young researcher in 1996, was on the real causes of the decline in inflation and the outlook for inflation, hence.

    More recently, the long piece I had written for Mint reiterates these points. It will be useful to your readers to read that piece:

    Further, I had argued in my FT ‘Market Insight’ piece that inflation fell as a result of labour arbitrage and not as a result of central bank policies:

    Further, the ‘On the economy’ blog of the Federal Reserve Bank of St. Louis (Nov. 2019) wrote the following:

    “Still, Dvorkin and Bharadwaj noted that their analysis revealed a negative relationship between automation and routine manual employment in local labor markets, which supports the thesis that automation may be an important driver of polarization in the labor market.” (

    So, even if globalisation is on the retreat (attempts to restore it to its pre-2008 glory is one of the important explanations behind the players arrayed against Trump), technology would keep labour uncertainty up and wage growth down. Therefore, the attempts by central banks to stir inflation through extended loose monetary policy, zero and negative rates at present and forward guidance as to their continuation until inflation rate reaches, on averge, 2%, etc., will end up creating inflation elsewhere. That is what William White is focusing on.

    Therefore, Lord Desai’s arguments are part of the whole piece and both of them represent two sides of the same coin.

  2. Anantha Nageswaran Says:

    Lastly, these issues are discussed in detail in ‘The Rise of Finance: Causes, Consequences and Fears’ that Gulzar Natarajan and I had written.

  3. Further, further on central banks and inflation – The Gold Standard Says:

    […] My friend Amol Agrawal had flagged two pieces – one by William White and one by Lord Meghnad Desai. His post is here. […]

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