MNI INTERVIEW: Era of Shortages To Force Rates Up - Bill White

A new era of global shortages including of commodities and productive workers will require permanently higher central bank interest rates, former top BIS and OECD official Bill White told MNI.

Governments could add to instability if they advance spending plans that fuel underlying inflation pressures or financial instability, he said on MNI’s FedSpeak podcast.

In the short term, the U.S. Federal Reserve needs to push interest rates well above their projected endpoint of about 5.1%, White said. More permanent frictions in the global economy will challenge all central banks under their current inflation-targeting frameworks, he said.

“Short term rates will have to rise higher than people currently anticipate, 5.5 for the Fed and 3.5 for the ECB, won’t be enough,” White said. “This may be a longer-run haul than you think, so it may not only be higher than you think, but it may be longer than you think.”

“We’re going from an era of plenty to an era of shortages,” said White, who is also a former Bank of Canada deputy governor. “It’s by no means obvious to me that you would rule out an inflationary future, and of course an inflationary future that would likely have to be met with higher interest rates.”

FURTHER BEHIND CURVE

Labor supply is showing some of the “scarring” effects economists predicted when Covid broke out, and other workers are choosing to work less, White said. (See: MNI INTERVIEW: Weak Labor Supply May Drive Fed Hikes-Adviser)

Longer-term demographic shifts include the retirement of Baby Boomers and slow or falling population growth in South Korea and China, whose addition to world production has exerted a disinflationary affect around the world for three decades, White said.

Commodity prices will also climb as fossil fuels are shunned in favor of harder-to-access materials and energy sources, he said. That means that business investment devoted to shifting energy production might be less effective in boosting economic growth. “Climate change is going to be another huge problem” that’s been lacking in many economic forecasts, he said.

“The pressure in the world that I see is going to be pressure for higher real interest rates, and of course higher nominal interest rates, and that’s something that central banks must recognize,” he said. “My real worry is they won’t recognize what needs to be done, and will get ever farther behind the curve.”

SALVATION IN TECHNOLOGY?

Long-term bond yields suggest investors aren't pricing in enough of these risks, White said. “The market has responded too slowly to the stuff that central banks have actually been saying for quite a while, and so I think it’s good that they are coming on side,” he said. “Longer run rates should move to reflect it and they are beginning to do so.”

Ten-year U.S. Treasury bonds are yielding less than the Fed's overnight target rate, and the same thing is true in Canada.

Record high government and private sector debt burdens may be an "impediment" to central banks doing what's needed with rates, fearing they will trigger financial instability, White said. Governments may also return to policies seeking to inflate away their debts.

“Central banks will become increasingly aware that if they do raise interest rates, they will be creating problems” White said.

Hope for a solution may rest with better use of technology that improves economic growth and curtails inflation. “It may well be there will be new developments that will increase productivity quite substantially," White said. "We know from history that when these changes come, you might be expecting small changes but it turns out to be a kind of sea change.”