Summary

Richard looks at the economy from the supply side in terms of people and their behavioural patterns. 28 years ago, after assessing the implications of an ageing population, Richard termed his thesis the “race to zero”. An ageing population crushes inflation and nominal interest rates. The world we are in is structurally disinflationary which means central banks will find hitting inflation targets extremely difficult. The only time they consistently managed this in the last 20 years was the synchronised global growth period leading up to the GFC. Richard’s view is that the trillions of dollars being added to the federal debt will not be inflationary. He recounted the Grace Commissions view at the time of Reagan's administration, that exploding deficits would lead the US to hell in a handbasket. This view was unfounded just as the proponents of inflation are today. It is not the debt level that matters. What matter is the cost of servicing the debt. With interest rates near zero (due to demographics) there is no excessive debt burden. The other issue people raise is that inflation is a monetary phenomenon and the Fed is printing money like mad. Whilst Richard recognises this, his view is that money demand is the basic driver, not money supply. Even though M2 is accelerating in response to the Coronavirus policy measures, it is not going to be an issue for inflation as the ageing population dampens demand which is reflected in a continued decline in velocity. The history of inflation is highly cyclical (and volatile, with wars) but did not become persistent until the 1960’s. Inflation expectations differ by age. Those over 50, such as those staffing the FOMC, with memories of the 70’s and perhaps the 60’s, worry a lot about its return. It is an unfounded concern. Richard’s thesis is that inflation is driven by the labour force. The 60’s saw baby boomers reach working age unleashing positive demand shocks. At the same time, the workforce became younger and less experienced. Demand curves were shifting out faster than supply curves, i.e. inflation. The situation changed in the 80’s with the maturation of a smaller generation which slowed the growth of positive demand shocks. New supply curves were shifting out faster as the workforce became more experienced. The result is structural disinflation which persists as the world becomes older. Most historical periods of persistent inflation were preceded by a rising birth rate. That is not something we have now. Absent dramatic changes in immigration, the forecast for labour force growth is modest. That implies modest growth in Nominal GDP. The relationship between the yield on Treasuries and the smoothed growth in Nominal GDP means there will be continued downward pressure on inflation and interest rates.

Topics