Monday, January 09, 2006

Greenspan gets it, will Bernanke?

Greenspan seems to grasp the effect of globalization on US wages and inflation.

WSJ: Buried in the minutes of the Federal Reserve's Dec. 13 policy meeting, released last week, was this bland observation: Fed officials "noted that robust competition -- including from foreign producers...[was] helping to contain cost and price pressures."

Markets largely ignored the sentence, but it's one of the most important factors guiding Fed Chairman Alan Greenspan in his final weeks at the helm of the nation's central bank. Mr. Greenspan has marveled at how inflation and wage growth have stayed low even as the economy continues to grow robustly and the jobless rate falls below 5%, a level that has often driven up wages and prices. Searching for an explanation, he has hit on globalization.

If the Fed thinks growing imports, outsourcing and international investment are holding a lid on wages and prices, then interest rates can be lower than they otherwise would. Indeed, as the minutes show, this is one reason the Fed seems to think it can stop raising rates soon. Of course, there is no guarantee Ben Bernanke, nominated to succeed Mr. Greenspan, will be guided by the same sentiments.

...Now, with productivity growth leveling off and unemployment declining, Mr. Greenspan has fingered globalization as the missing variable that explains why inflation is so low. He began this avenue of inquiry in 2003 when he was trying to understand how U.S. trade deficits, which must be financed by borrowing overseas, could keep growing with no upward pressure on U.S. interest rates and little downward pressure on the dollar. His conclusion was that the U.S. can run large deficits with its trading partners because investors have become less sensitive to international borders in deciding where to put their money.

Last year, he expanded the explanatory power of globalization to include its influence on inflation and wages. The integration of the former Soviet Union, China and India into world markets would "approximately double the overall supply of labor," he told Congress, and prove a major contributor to "the disinflationary pressures that have been evident in the global economy."

...Often the mere threat that production may move offshore is enough to trigger wage concessions. Auto-parts supplier Delphi Corp., now in bankruptcy protection, has asked for steep wage and benefit cuts from its workers to meet customer demands that it match the prices of low-cost foreign suppliers. Several academic researchers say this "threat effect" has depressed wages and increased inequality in numerous countries, both rich and poor.

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