Filippo Gaddo, Managing Director at MAP and SPE member, held a discussion with Ricardo Reis, from the London School of Economics, on the causes of the recent inflation cycle, the role played by expectations in moderating the impact of inflation, and the future of interest rates and r*, the natural rate of interest.

During the interview, Ricardo outlined four explanations for the burst of inflation seen in 2021-22, focusing on the role of a sudden burst of consumer demand coming out of lockdowns, expansionary monetary policy, fiscal policy stimulus, and the initial slow response from central banks, which were still looking at the increase in prices in early 2021 through the lenses of their pre-covid 19 experience and framework. Even if Ricardo does place some of the blame for the rise in inflation on the inadequate response of monetary authorities, the conversation also highlighted the level of noise in the data at the time that may have clouded somewhat the ability of central banks to correctly identify the signals of the fast coming increase in the price levels.

The discussion touched upon the role of short term inflation expectations in providing signals to the market and how they are currently pointing towards a return to a slightly higher than average inflation rate in the near future.

The conversation concluded with a view of where r* may be headed and what are the drivers that will keep it higher than the recent historical average. Ricardo offers some scenarios on the level for nominal Fed rates – listen in to hear a prediction.

Ricardo Reis is the A.W. Phillips Professor of Economics at the London School of Economics. Recent honors include the 2022 Carl Menger prize, the 2021 Yrjo Jahnsson medal, election for the Econometric Society in 2019, the 2017 BdF/TSE junior prize, and the 2016 Bernacer prize. Professor Reis is an academic consultant at the Bank of England, the Riksbank, and the Federal Reserve Bank of Richmond, he directs the Centre for Macroeconomics in the UK, and he serves on the council or as an advisor of multiple organizations. He has published widely on macroeconomics, including both monetary and fiscal policy, inflation and business cycles. Professor Reis received his PhD from Harvard University, and was previously on the faculties at Columbia University and Princeton University.

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