Monty Bennett hasn’t seen anything quite like today’s stubbornly low inflation in his long career as a hotelier.
Occupancy at the Ashford Group of Companies’ 143 properties is at all-time highs, yet Bennett still finds it difficult to raise room prices as aggressively as he expected at this stage in the U.S. economic expansion.
“When we take rates up too much, we will see demand slacken; and that will cause us to push them back down,” said Bennett, the Dallas-based company’s founder and chief executive officer.
Bennett’s description of consumer businesses’ tentative pricing power these days is the Holy Grail that central bankers, including Federal Reserve Chair Janet Yellen, sought for decades. Now, though, in what might seem like a strange twist on conventional economics, she and her colleagues are raising interest rates while simultaneously trying to make clear to the public they don’t want inflation to hang around zero for too long. They reiterated their desire last week to see it climb to 2 percent after boosting borrowing costs for the first time since 2006.
The Fed has missed its goal for more than three-and-a-half years, and it doesn’t expect the pace of price gains to approach the target until the end of 2017. Central bankers also are missing inflation targets in Sweden, the euro area, U.K., Japan and even New Zealand, which pioneered the strategy of trying to deliver a specific rate.
Return to Zero
Thirty years ago, any policy maker would have welcomed a run of inflation below 2 percent. But the less inflation there is, the lower central-bank rates will be, making a return trip to zero more likely. That would force officials to resort, once again, to unconventional tools such as bond-buying that can be politically unpopular and less effective in restoring jobs and growth.
“We’re not saying goodbye forever to the zero lower-bound and the problems that it causes,” former U.S. Treasury Secretary Lawrence Summers told Bloomberg on Dec. 15. “When we get to recession, we usually need 300 basis points or more of Fed easing, but there’s simply not going to be room for that.”
Fed officials stressed their commitment to their target last week, saying they need “actual and expected progress” on prices to keep pushing borrowing costs up. That’s a higher bar than in October, when policy makers said they only needed to be “reasonably confident” inflation would move back to 2 percent.
“We really need to monitor, over time, actual inflation performance to make sure that it is conforming” to the Fed’s forecast, Yellen told reporters on Wednesday after raising the benchmark federal funds rate from near zero.
The Fed’s preferred inflation gauge, the personal consumption expenditures price index, rose 0.2 percent for the year ending October. Minus energy prices, which are depressing the overall index, and food, the measure rose 1.3 percent.
The Fed sees the extended rout in energy prices eventually hitting bottom, according to the statement after last week’s meeting. Policy makers also said labor someday will be scarce enough that workers can bargain wages higher and have more pocket money to spend, allowing executives such as Bennett to raise prices.
It’s a forecast and a gamble. Just how and when wages translate into higher prices is a process that isn’t well understood. And there could be more shocks — another rise in the dollar or continued weakness in oil prices — that depress inflation for a longer period. A target-miss extending out five or six more years could erode confidence that inflation ever will return to 2 percent, undermining the Fed’s credibility. This would make its work even harder.
The global environment isn’t helping. In fact, none of the Group of Seven nations will see inflation above 2 percent this year for the first time since 1932, according to data compiled by economists Carmen Reinhart and Kenneth Rogoff.
The annual rate hasn’t been at the European Central Bank’s target of just below 2 percent since 2013 and has averaged 1.2 percent under President Mario Draghi’s watch, putting him at risk of being the first ECB president who fails to meet his mandate. In delivering fresh stimulus this month, the ECB forecast inflation will accelerate from 0.1 percent this year to just 1 percent next year and 1.6 percent in 2017.
Vanquish Deflation Risk
It “will disappoint and just isn’t going to pick up as much as they think,” said Richard Barwell, an economist at BNP Paribas Investment Partners in London. He argues Draghi should be more explicit in saying he will allow it to run above target for a time to vanquish the risk of deflation.
In the U.K., inflation edged back above zero in November for the first time in four months — still way below the Bank of England’s 2 percent goal, which it doesn’t expect to reach until late 2017. Citigroup Inc. estimates the pace this year may have averaged zero, the lowest since the 1930s.
“We suspect that 2016 will see low but positive inflation,” said Michael Saunders, Citigroup’s chief European economist. “In other words, an end to deflation but continued low-flation.”
Bank of Japan Governor Haruhiko Kuroda has yet to achieve his 2 percent goal more than two years after ramping up quantitative easing. Instead, prices are rising, at most, about 1.2 percent, according to a measure that strips out fresh food and energy. Board members don’t anticipate reaching their target until the latter part of the 2016 fiscal year, which ends March 2017. Even then, some say it may be missed.
Patient Policy Makers
As long as global economies don’t get stuck in a low-inflation world, there is a lot that’s positive about lower prices, including the potential to boost household consumption, which accounts for almost 70 percent of the U.S. economy. That may be one reason why central bankers including Yellen appear patient to let inflation rise over the next couple of years.
“I don’t have a lot of sympathy that cheap oil is having only negative effects,” said Mark Spindel, chief investment officer at Potomac River Capital LLC, a $700 million Washington hedge fund that specializes in inflation analysis. “The Fed canon is still accurate when thinking about cheap energy: It drives spending.”
Bennett, a second-generation hotelier, would welcome a little more pricing power, which would “help everything.” Some of his properties are in locales with legislated minimum-wage increases and “we have not been able to pass those costs along to the consumer,” he said.
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