Chicago Fed President Evans delivered a speech (“What’s Driving Growth and Inflation?”) at the OESA 2021 Automotive Supplier Conference: Beyond Disruption.
Please, see below Evans’ main points about inflation together with our comments.
Causes of inflation and broadening pressures
According to Evans, “much of the current inflation is transitory”. However, he added: “I had expected to see more progress by now” remarking that there are signs that inflationary pressures may be building more broadly. As for the cause of inflation, Evans seems to think that much of the surge in inflation is due to supply disruptions and that uncertainty remains elevated: “it is difficult to predict how long it will take for supply and demand conditions to normalize and drive inflation down.” Comment: we share Evans’ view that inflation will step down in 2022:H2. However, we disagree with Evans about the causes of the recent runup. While both demand and supply have contributed to the increase in inflation, the former is dominating as we have seen -on net- an increase in both, quantities and prices.
Expectations / Underlying inflation
Crucially, Evans said that “the real question is how much impact present price pressure will have on underlying inflation”, […] that is “whether the increases in prices and wages we are seeing today will find their way into the underlying wage and price setting mentality of households and businesses”. Evans offers the answer: “longer-run inflation expectations appear either roughly in line with or even a bit below the FOMC’s 2 percent average inflation goal. So, with the caveat that none of these indicators are very precise, they signal today’s outsized inflation as being temporary.” Comment: Evans’ comment about “underlying inflation” is a confirmation that he is fully onboard with the Fed staff view: in the Fed staff framework, underlying inflation is the crucial assumption not only in the price decomposition but also in the wage decomposition. Therefore, the estimation of pi* remains crucial going forward.
Hiking
As for policy actions, Evans said that “Uncertainty about the forecast could cause the Fed to move up or postpone rate increases” […] “judging from where the economy stands today, it looks like we are in for a low-rate environment for some time to come.”. Comment: Indeed, we do not expect the Fed to hike before the uncertainty around the labor market and inflation outlook will have decreased. We expect uncertainty to remain elevated at least for another 6 months (especially on the inflation front) before some clarity can be made by the incoming data.