‘Global inflation gap’ points to slack across advanced economies – paper

Measures of a “global inflation gap” suggest that economic slack persists across advanced economies, implying inflation is unlikely to undergo a sudden surge in the near future, according to a new paper published by the National Bureau of Economic Research.

An expectations-augmented Phillips curve is key to the result, write Olivier Coibion, Yuriy Gorodnichenko and Mauricio Ulate. Only when households and firms are allowed to base their decisions on expectations about the future does a “systematic relationship” between inflation and economic slack emerge.

By “pooling” several surveys of household or firm expectations across countries, the authors find a “robust and negative relationship” between the deviation of inflation from expected inflation (the inflation gap) and the deviation of unemployment from the natural rate (the unemployment gap).

The authors use their data to estimate a “global inflation gap”, finding that while the gap has narrowed in recent years, it remains negative.

“This suggests there remains economic slack not just in the US but across most advanced economies,” the authors say. “In short, while output gaps are likely closing given that the gap between inflation and inflation expectations is shrinking, we find no evidence that inflation is on the brink of surging ahead.”