In/Dis/De-flation

For much of the post-WWII period, the principal challenge facing most world central bank authorities - indeed their sole mandate - was the containment of general price inflation. The apogee of this chronic battle in America was reached during the 1970's, when it became acute: inflation accelerated to reach a peak of over 13% by the end of that decade. Fed Chairman Paul Volcker, appointed in 1979, fought back furiously, raising the federal funds rate continuously to as high as 20% by June 1981. He won his fight - inflation, which peaked at 13.5% in 1981, dropped to 3.2% by 1983. It remained below 5% for the rest of the 1980's and the 1990's, and annual increases in consumer prices through the first decade of this century were similarly modest. Of course, certain asset prices in America - notably house prices - bubbled up through the early 2000's, and then burst in 2007. Near-financial-collapse, and recession, ensued throughout the world economy.

Half a decade later, economies are either growing grudgingly, as in America - well below trend - or remain mired in recession and debt, within either or both the public and private sectors, as in Europe and Japan.  And imagine this: price inflation - of just 2% - is now a goal of policy-makers, rather than an enemy to be struck down. Price deflation (defined simply as a persistent decrease in the level of prices for goods and services) is the new bete noire of central bankers, especially given the lessons of the nearly three decades of deflation/stagnation in Japan, and more recently, given the price disinflation (that is, a slowing in the rate of general price increase) dramatically evident in virtually all developed economies. (Here are the latest statistics: late last week, the euro zone released figures for October indicating that the inflation rate for the region fell to 0.7%, the lowest for almost four years; similarly, a comparable measure of inflation in America was 0.8% in September, compared with 2.1% a year earlier.) 

So, in the wake of unprecedentedly low interest rates and quantitative easing in America, Europe and Japan, the price inflation that many predicted as an inevitable result seems a very long way off - indeed, it seems now that authorities everywhere will need to at least maintain their loose monetary policy for much longer - or, as in Europe, loosen even further - to mitigate unemployment, especially that of the young. Equity prices, and real bond yields, are the benefactors of such an environment.