Monday, June 29, 2009

‘Output Gap’ Indicates There Won’t be any Inflation

From Money Morning Australia:

What’s an ‘Output gap’?

Well, it’s the latest phrase being used by ‘Born-again Keynesians’ to argue there won’t be any inflation.

We say ‘latest,’ but the idea has been around for years. It’s just that now is the time that mainstream economists need to use it to back up their anti-inflationary case.

Your editor was kindly supplied with the following chart over the weekend by a Money Morning reader…

Evidently it is from an email sent out by Macquarie Group interest rate strategist Rory Robertson. According to Robertson, because the green line is so far below the zero line, inflation won’t be a problem until it rises above the green line.

The argument seems to be that because there is so much ’slack’ in the economy, price pressures will be downward rather than up.

Or, to put it another way, supply exceeds demand, so prices must surely fall.

But rather than rely on your editor for a real definition of the ‘output gap’, why don’t we hand it over to the ‘experts.’ In this case, the Reserve Bank of New Zealand (RBNZ)...MORE