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World Faces `Minor Replay' of 1970s Stagflation, Goodhart Says
By Svenja O'Donnell
Jan. 31 (Bloomberg) -- Central banks across the world face a ``minor replay'' of the stagflation of the 1970s as inflation picks up and economic growth slows, former Bank of England policy maker Charles Goodhart said.
``All the world's main central banks now face a more difficult period,'' Goodhart, a London School of Economics professor, said in an interview. ``We're going into a sort of a minor replay of the stagflation we had in the 1970s. Growth has been declining, productivity has been falling awkwardly, and there have been supply shocks on the inflationary side.''
The International Monetary Fund this week cut its forecast for global growth this year to the weakest pace since 2003 and said that strengthening inflation pressures pose a dilemma for policy makers. The Federal Reserve yesterday lowered its benchmark interest rate for the second time in as many weeks to stave off a recession in the U.S. economy, the world's biggest.
``Life is a lot more difficult,'' Goodhart said, speaking late yesterday. ``When you combine that with this present financial crisis, you've got a very nasty year or so for central bankers to get through.''
Goodhart served on the U.K. central bank's Monetary Policy Committee for three years from 1997, and spoke at a conference of the LSE's Financial Markets Group, a study center founded by Bank of England Governor Mervyn King. He developed `Goodhart's Law' in 1975, which holds that targeting monetary aggregates as a surrogate for inflation is futile.
``He's right, he usually is,'' said Kevin Gaynor, head of economics and rates strategy at Royal Bank of Scotland Group Plc ``He's one of my heroes.''
Gaynor said that the ``core circumstances'' facing the world economy are similar to the start of the 1970s. ``Loose global monetary policy, global growth that's strong and a whiff of inflation pressures in the air,'' he said. ``We're exactly in the same position now.''
The oil crises of the early 1970s fueled a jump in wages and inflation that King describes as ``the great inflation.'' Faster price gains were accompanied by higher unemployment and slowing growth, giving rise to the description ``stagflation.''
The oil price exceeded $100 a barrel this month, adding to living costs for consumers. King said last week that inflation in the U.K. may match the highest in a decade this year.
Gaynor said that the difference with the 1970s is that central banks are now better able to respond to such effects because they are independent and have inflation targets.
`A Different Story'
``Whether stagflation becomes entrenched is not at all certain,'' he said. ``For us it may be a minor replay in the West, but in emerging economies it's a different story. If anyone's going to suffer, it's them.''
The Federal Reserve lowered its benchmark by half a percentage point to 3 percent yesterday, saying that ``downside risks to growth remain.''
The Bank of England will cut its rate on Feb. 7 by at least a quarter-point to 5.25 percent, all 31 economists in a Bloomberg News survey predict. The European Central Bank will keep the rate at 4 percent on Feb. 7, according to 55 out of 56 economists in a Bloomberg News survey.
The world economy will expand 4.1 percent this year, down from 4.9 percent in 2007 and below the 4.4 percent pace projected in October, the International Monetary Fund predicted on Jan. 29. IMF Chief Economist Simon Johnson told reporters that ``no-one is going to be exempt'' from some slowdown.
``What we need is a great deal of luck,'' Goodhart said.