Is Inflation about to take off again?

Irish Consumer Prices fell by 1.5% in the year to October 2020. Euro area prices also fell in the year, by -0.3%. Irish consumer price levels are the same as twelve years ago in 2008. Inflation internationally has also been subdued. As the chart shows, (apart from a fall in 2010 with a rise soon after), Irish inflation has been stable for several years.

In recent years, with earnings rising and no inflation, living standards have been rising for those at work.

In contrast to the subdued Consumer Price Index, residential prices soared by 83.7% from its trough in early 2013 with Dublin going up by 91.5%, from a trough in February 2012. This was of course, after the collapse of house prices after the policy-induced bubble of no regulation and property tax breaks to speculators.

The Roaring 1980s

Inflation roared in the 1970s and 1980s. It had been 20.9% in 1975 and there were other annual highs in 1981 of 20.4% and 1982 of 17.1%.Trade unions made pay claims of as high as 25% in firms in some years in attempts to maintain workers' real incomes. In 1980 industrial workers earnings rose by what seem like a high 18.2% but yet there was a fractional fall in real earnings - after inflation. In 1981 and 1982 real earnings fell by over 3% in both years. After the very high rates of inflation in the 1970s and early 1980s, inflation did fall to below 10% after 1983.

This high inflation with trade unions seeking compensationary wage rises led to a wages/price spiral which was not productive and certainly not for workers in the 1980s. This was one reason why unions changed from the "Free for All" wage bargaining to Social Partnership in 1987. This strategy was to be much more successful for their members and for the country. Industrial workers take-home earnings doubling in 20 years from 1987 assisted by tax reductions and high productivity. More importantly, total employment, which had been at 1.1m for 65 years also doubled in the 20 years after 1987.

A Little Inflation Helps

Inflation has been subdued for over a decade, though falling prices, deflation, is not good for the economy. Deflation brings uncertainly as consumers postpone spending in the hope of further price falls. Low interest rates, while good for indebted companies, consumers and governments, is bad for savers. A little inflation oils the wheels of the economy.

Inflation to Roar Again?

But there is a view that inflation is about to take off again, with disruptive consequences. In a recent book the "Great Demographic Reversal," Charles Goodhart and Manoj Pradhan forecast inflation will pick up next year by between 5% and even 10%. The authors argue that a major demographic shift in the structure of the world economy means we are reaching the end of the era of low inflation. "The ratio of the retired-old to workers will worsen, as longevity out-distances retirement age, particularly in those countries which earlier grew fastest." They argue that "the great demographic reversal and the retreat from globalisation will bring back stronger inflationary pressures – this is our highest conviction view. Worsening dependency ratios naturally raise inflation. The lesser availability of labour at home and abroad will serve to restore the (previously diminished) bargaining power of labour."

Goodhart and Pradhan suggest that reduced globalisation and the demographic shift with ageing populations, in the west and even in China, will lead to a return of inflation, higher nominal interest rates, reduced inequality and higher productivity. Rising wages in China mean that the bargaining power of workers in the West will rise and this will lead to less inequality. There will also be increasing fiscal problems because medical care and pension expenditures all increase with ageing societies, they argue.

As if to support this thesis, in December 2020, the Irish Fiscal Council warned that ageing will impact on Ireland. The increased pension and health costs of ageing will cost the exchequer an extra €850m each year to 2025.

Thirty years ago, the opening of the former Soviet economy, its satellite economies and China and of other developing countries led to the rapid spread of markets. But also the rise in trade and direct investment led to a vast increase in cheap global labour supply for production. Millions of jobs in manufacturing in the developed world migrated to the newly opened markets and the very cheap labour reduced prices of manufactured goods. However as ageing now hits China, its workforce will decline, meaning a reduction in production. Already wages in China have risen substantially. The authors show that US wages were 35 times those of China in 2000 but are now down to 5 times. The slowdown in globalisation which has already taken hold, will also impact on cheap prices and inflation and this will strengthen workers' bargaining power, it is argued by Goodhart and Pradhan.

However, I would argue that it will take more than even a major demographic shift, restore the power of trade unions, which in turn is the best way to reduce market inequality. Trade union power was certainly reduced by jobs being offshored to cheap labour countries, but it was also reduced by a) technological change which greatly favoured capital and, b) bargaining rights were reduced deliberately by governments under pressure from globalisation and shareholder-value driven bosses, c) the rise in the financialisation and the d) growth of the tech oligopolies.

So for union bargaining power to be restored, much more reform than demographic shifts are needed. The issue is whether there are progressive parties which will address this or is their focus solely on identity politics?

Globalisation has led to many benefits including low inflation, but what we had was hyper-globalisation. It was unregulated; it was unnecessarily disruptive; it was skewed to favour the owners of capital and facilitate massive capital accumulation. It imposed massive job losses and considerable costs on workers. This is demonstrated by the fall in the share of National Income going to labour in so many countries. It did give us much cheaper manufactured goods and it reduced inequality and absolute poverty in the world as jobs did migrate to developing countries. Globalisation has being curbed in recent years, but it must be managed including reforms like a financial transaction tax and even capital controls.

It will be interesting to see if Goodhart and Pradhan are correct on inflation roaring again. More importantly will the new structural changes lead to more power for workers and unions to reduce market inequality? It is too soon to celebrate.   

Paul Sweeney     @paulsweeneyman

Paul Sweeney is former Chief Economist of the Irish Congress of Trade Unions. He was a President of the Statistical and Social Enquiry Society of Ireland, former member of the Economic Committee of the ETUC, a member of the National Competitiveness Council of Ireland, the National Statistics Board, the ESB, TUAC, (advisor to OECD) and several other bodies. He has written three books on the Irish economy and two on public enterprise, including The Celtic Tiger; Ireland’s Economic Miracle Explained and Selling Out: Privatisation in Ireland, chapters in other books and many articles on economics.