So let’s start with Pensions (and hope that that doesn’t turn off readers who’ve made it this far).
A sustained rise in long term interest rates as a “cure” for the deficits plaguing defined benefit pension schemes would swamp the impact of just about every other asset or liability management tool, and maybe even all of those “fixes” put together. If a sustained rise in long term nominal rates of just 1% or so and maybe half that in real terms would be sufficient to bring a huge proportion and perhaps almost all such schemes close to full funding, we might well consider whether and how that could happen.
Unfortunately, in our increasingly globalised world, hoping or expecting such an outcome is a complete waste of time. To borrow from “The Hangover” movie (an apt choice), that just “ain’t gonna happen”. Not in our lifetime, let alone in our careers. As things stand there is almost no chance of sustained global wage inflation2 or at the very least little chance of UK or US wage inflation, with unbounded economies and the free movement of labour. No sustained UK/US wage inflation probably means no sustained UK/US price inflation. And that implies low or near zero long term rates (real or nominal) and expectations thereof are here to stay, or at least for a very long time.
In fact higher long term rates are currently almost impossible in our commercially globalised world. In extreme (marginal and theoretical) terms, one might say that not until the last $ of developed world savings (and it likely would be a US dollar) meets the wage packet of the last unemployed African, can sustained inflation take hold globally. In practice of course, the relative weight, volume, power, demands and costs of capital vs labour on the global stage is what counts most; and we’d for sure have some sniff of inflation well in advance of that extreme.
Nevertheless, with 2-3 billion of labour and talent in emerging economies set to remain cheap relative to developed world domestic market labour, it’ll be a long, long time before a pack of 5 T-shirts in Primark a luxury-priced item….and that’s ahead of mass robotics and The Internet of Things getting fully underway.
And before we look deeper into our rabbit hole which we seem intent on descending further, we should put aside one potential piece of misdirection. Whilst the current low interest rate regime is perhaps more extreme (ie “lower for longer”) than it might have been without the financial crisis, this environment would have arisen anyway, although perhaps less dramatically, as an inevitable by-product of the build-up of debt until it’s onset.
No, the long term nominal interest rates trend towards zero (and the trend towards negative real rates), sustained more than anything else by the increasing globalisation of world trade and dominance of capital over labour, has been underway for 20+ years.
Sir James Goldsmith, impressively prescient as ever in the mid-nineties, foresaw this dominance of capital over labour, the waves of immigration unleashed by the prevailing economic doctrine and the mass movement of populations into usually less wholesome urban environments (he estimated 2 billion would urbanise). The evidence is now in; just one data point: in China, 60-80 million children, roughly one-fifth of all Chinese children, live at home in the countryside, separated from their parents sometimes thousands of miles away. http://www.bbc.co.uk/news/world-asia-china-35994481
(BTW thanks Raoul Pal @RaoulGMI for this provocative and entertaining interview of Sir James Goldsmith by Charlie Rose on YouTube)
“Economics has never been a science – and it is even less now than a few years ago.” Paul Samuelsen
That increasing integration of national economies contributes heavily to the global decline in inflation is now well recognised (e.g. Alan Greenspan in this May 2004 speech). Now we might know or think we know how we can defeat inflation, including through monetary policy, but deflation appears to remain the more stubborn, greater foe and our tools to deal with it still largely unproven. So we should perhaps consider very carefully whether we really want more multi-nation economic integration.
The deflationary forces of globalization have increased the inequalities and imbalances within many societies (particularly fully-exposed trading democracies). Building up as they were before the crisis, these inequalities and imbalances have only been exacerbated in the usual manner by the recession which followed. Add to that the wealth-transfer impact of years of austerity (including the aforementioned near zero interest rates, QE, LTRO, EFSF, etc.) and you have a pretty unbalanced pickle indeed.
As we’ll see later, whether such inequalities directly cause or even correlate with negative social outcomes is hotly debated. But according to the IMF, such inequalities are the cost of some policies that target open economies and austerity. These “evident costs” include “increased economic volatility and crisis frequency” and “jeopardizing durable expansion” (Source: IMF “Neo-liberalism: Oversold?” June 2016).
Finally and perhaps with greatest long term impact, overlay the Internet’s arrival en masse and its ability to shrink the globe, the key learning from which is that we are pretty much oversupplied with everything.
Yes, global sustainable inflation at any significant level is, for the workable future, to all intents and purposes, dead. As if we didn’t already know it.
Moreover, if there are deflation and inequality perils to increased commercial integration, then the UK, arguably the most trade-linked and culturally internationalized country on earth (think Empire, Commonwealth, European Union, US “special relationship”, language dominance, etc.), boasting the world’s leading truly global capital city at the centre of its financial markets, has been and remains very exposed. We are in the vanguard of globalization and facing “front and center” any headwinds it brings.
So we must really challenge our deepest notions, assumptions and thinking in response. Because if before the Internet came along the model was a failed or failing one, or was in danger of surpassing its safe point, then now, post-Internet, it’s on steroids!
2 We may of course get bouts of imported input inflation creeping into the system over some reasonable future period from e.g. £ devaluations, Chinese/emerging market wage or cost inflation, but these will likely be cyclical or short term rather than long term sustainably structural in nature.