No convincing evidence that inflation fosters growth

Percentage growthSir, Mario Draghi again stressed the central bank mantra that low inflation should be combated by even more expansionary monetary policy (“ECB chief vows to beat low inflation”, February 5). Like many, he laments the experience of Japan where slightly negative inflation is said to have caused lower demand and growth because people then postpone consumption.

But to explain lower consumption, demography suffices. Japan’s population is the oldest among developed countries. Older people consume less. Moreover, households saved less during this period. Deferral of expenditures should have made for an increase in savings.

Incorrect stories develop a life of their own if continuously repeated. So the story of Japan’s lost decade. The reality is different. Per member of the working-age population, Japan’s growth has trumped that of many of its peers: between 2000 and 2007 this cumulative growth was 15 per cent in Japan or double that of the US (8 per cent).

Eurozone countries where austerity has paid off also belie this story. Today Spain’s year- on-year CPI inflation is -0.3 per cent, while its year-on-year retail sales and GDP have risen 2.3 per cent and 3.5 per cent. For Ireland these percentages are 0.1, 4.6 and 7.0 respectively.

Historically there is no convincing evidence that inflation fosters growth. That suggests that other motives are behind the ECB’s aim of about 2 per cent inflation, such as depreciation of the euro, despite its current account surplus, and the greater ease to engineer negative real interest rates.

Attempts to counter deflation with more unconventional monetary policy could backfire. Present deflationary tendencies are the unavoidable consequence of mountains of debt that central banks helped to create. More QE and even more negative interest rates will further increase debt. That will feed deflation. Renewed ECB action is highly likely to be counterproductive.

Dr. Frank Boll

Director Ecofis NV/SA

Rotselaar, Belgium

This letter was published in the Financial Times of 10 February 2016





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