My friend Lakshman Achuthan, Co-Founder & Chief Operations Officer of the Economic Cycle Research Institute (ECRI), has done some really interesting work on international inflation cycles, and in today’s Outside the Box he shares it with us. This is a special treat – ECRI does not normally make its material available outside of its client base. I am truly grateful that he allows me to share this. Lakshman will be joining us at SIC this week in Orlando, to the great benefit of the attendees.
It turns out that inflation volatility has been greatly dampened in the 11 OECD (advanced) economies in the 21st century, as compared to the late 20th century: It’s now only about a quarter of what it was then. Additionally, the domestic inflation cycles of these countries have increasingly come into sync. These two trends have made it possible for ECRI to devise a leading index of global inflation cycles that offers earlier and more accurate forecasts of cyclical turning points in international inflation.
In concluding this short but groundbreaking piece, Lakshman adds,
The synchronization of international inflation cycles highlights the importance of global factors in assessing domestic inflation prospects. Our analysis underscores the 21st-century reality that the timing of inflation cycles may be beyond the control of any individual central bank. Yet this very development makes it possible for ECRI to provide even earlier signals of peaks and troughs in the inflation cycle.
Lakshman’s piece runs with an argument that my friend John Vogel wrote about this morning, highlighting another piece of research. I’ve been arguing for years that the world is basically in a long-term deflationary trend, despite all the monetary intervention and money printing. It’s a bit difficult to measure, but the cost of producing goods is dropping. Which means that the cost of living will continue to fall – at least as far as purchasing goods is concerned (as opposed to buying services like healthcare and education). As John writes (somewhat controversially):
What I think is more interesting is the productivity created by CHEAP oil and natural gas. We don’t measure this, no fault of men like Prof. Gordon who think in straight lines.
As the price of energy came down in the US, energy companies didn’t go out of business as some had forecast. They have pressed hard to find ways to find, drill and lift energy out of the ground in cost effective ways. While this effort may have hurt short term profits, it has also ensured the survival of service companies and E&P companies.
Next, as the price for natural gas has come down and stayed down (with no sign of supply shortages), the industries that thrive on natural gas, such as chemicals, plastics, etc, have become more profitable. Third order: Lower feedstock may also lead to lower chemical prices that will feed into clothing, agriculture, etc, in the form of more competitive pricing of high quality stock to many industries. Organic chemistry applications are being reborn as reduced cost leads to more or better applications.
This entire process means that we should be able to recreate entire industries that had gone to other countries, as wages no longer pose impediments to competitive pricing.
In short, what we are seeing is the same ripple effect that lower cost semiconductors had on computer and electrical applications; now we are seeing it in industrial applications. However, it now has to be measured as a secondary or tertiary effect, rather than a direct application.
Further, this helps explain why deflation is needed economically; it may be a salvation for employment…. If deflation can lead to a lower cost of living, we can recreate industrial jobs outside high cost of living cities. It is the opposite of the mega trends that others keep point to. The latest rage is co-living, where small living spaces with a bath replace an entire apartment. Gone are living rooms and kitchens. But even with this, rent in Chicago is $1000 per month and in NYC $1900 per month. In fact, the developers make more money this way than they do in conventional 1 and 2 bedroom apartments.
Deflation will force relocation of jobs and therefore will force geographical redistribution. Because this is not being touted as a good solution, the transition will be rocky. But it must occur. It is the future of economic success for the entire country.
The future is changing the world around us, but it’s a gradual transition that is not readily apparent on a day-to-day basis. If you pay attention to the long-term data, as Lakshman does, you can see that change is happening faster than we think.
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