Sunday, September 02, 2018
The Amazon effect has kept a lid on prices - but not for much longer
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

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My regular column is available to subscribers on www.thesundaytimes.co.uk This is an excerpt.

We live in a time of generally low inflation, and have done for some time. That may not be true of Venezuela, once lauded by Jeremy Corbyn, where the inflation rate has just topped 80,000% and the International Monetary Fund thinks it could hit the one million per cent mark by the end of the year; the kind of rate where people are obliged to carry even redenominated banknotes around in wheelbarrows.

But it is true in most countries. Looking across the advanced world, America’s inflation rate of nearly 3% is at the top of the range while Japan’s, just under 1%, isn near the bottom. Eurozone inflation is 2%, while Britain has a 2.5% rate. No big economy has a serious inflation problem.

Independent central banks can take much of the credit for that and, in fact, since Bank of England independence in 1997 – Gordon Brown’s greatest legacy – Britain’s inflation rate based on the consumer prices index has average exactly 2%, in other words it has been bang on target over the period as a whole, even if it has deviated from that target most months.

The Bank and its counterparts elsewhere would be the first to admit that other factors have been at work in this shift in the global inflationary environment. Some of these factors – the China effect, the rise of the discounters and the impact of Amazon and e-commerce in general – fall into the same category. They brought about a step-change down in prices, squeezed the margins of traditional manufacturers and retailers but brought significant benefits for consumers.

It was once common to talk about the China effect on inflation. Low-cost imports of goods from China dragged down inflation. The result was often that prices of goods fell year upon year – goods price deflation – even as service-sector inflation remained above the overall 2% target.

The China effect has not gone away but it is not what it was, and over time it became more complicated. China as a source of cheap goods also became a country which, because of its sheer size and rate of growth, put much upward pressure on oil and commodity prices..

The China effect and the impact of discount retailers on inflation were closely related. It is an impact that persists, notably in the grocery sector, though not enough to prevent a pronounced, mainly weather-related rise in food prices in coming months, which the Centre for Economics and Business Research has warned about.

Elsewhere, however, that effect too is diminishing. The pound shop model, if not broken, is under strain. Pound shops selling increasing numbers of products for over £1 are never going to have the same impact on inflation, though their approach did change the pricing behaviour of other retailers.

Another effect, the impact of Amazon and e-commerce, is however an apparently enduring one. The rise of online retailing, now such a key element on everyday life, has been swifter than you might think. According to official figures, online retailing accounted for less than 3% of all retail sales as recently as late 2006 and early 2007.

Now it is 17.1% on an unadjusted basis, having hit a high of 19.9% in November last year as a result of “Black Friday”. Assuming another Black Friday this autumn, and this is one US invention I would prefer to have seen staying on the other side of the Atlantic, a new record is likely to be broken. In a seasonally adjusted basis, July’s 18.2% online share was a record.
The benefits in lower prices of internet retailing have not necessarily been evenly spread; the young and computer-savvy being bigger beneficiaries than older consumers and those for whom the online marketplace is a minefield.

But the effect has permeated through to all retailers and is one of the sources of high street distress. Lower internet prices mean even John Lewis cannot claim to be never knowingly undersold in comparison with online-only rivals but it like most successful bricks and mortar retailers has had to embrace online retailing.

How big has the impact on inflation been of e-commerce? Central bankers are mainly clear that there has been an impact. Jerome “Jay” Powell, the chairman of the Federal Reserve, told the Senate Banking Committee earlier this year that the “Amazon effect” had been a factor keeping inflation low since the financial crisis.

Most researchers have found it hard to pin down the size of the effect; though a paper presented to an IMF conference suggested a short-term disinflationary impact, though was sceptical about the long-term impact. The European Central Bank has examined the impact on prices in Europe.

Part of the problem in measuring that impact, which looks to be real, is the absence of a counterfactual. We live in a world of an increasing online impact and knowing what would have happened in the absence of it.

Another difficulty is the way that inflation data is collected, which tends to be from collecting prices at traditional retailers. It was reported earlier in the summer that the Office for National Statistics is to do more to incorporate online prices, through “webscraping”, into its figures. It is quite possible that official figures have understated the internet impact, and overstated inflation, in recent years.

Now the question is whether the Amazon effect on inflation is set to fade, like the China and discount-retailer effects before it. A paper presented at the Jackson Hole symposium, a key event for central bankers hosted by the Federal Reserve Bank of Kansas City, offered a new perspective.

The paper, presented by Harvard Business School economist Alberto Cavallo, who has done extensive research in this area, had two key conclusions. One is that a consequence of online retailing is more frequent price changes. Online retailers can change prices more easily and cheaply than traditional retailers and do so, forcing traditional retailers also to change.

The other conclusion, perhaps because it is easier to change prices for online retailers, was that the the larger the internet presence, the quicker the “pass-through” to higher prices from nationwide events such as increases in energy prices or a fall in the exchange rate. The internet could lead price increases rather than act as a drag on them.

Traditional retailers have had much to complain about with the rise of Amazon and other online retailers but consumers have benefited from greater pricing transparency and lower prices. Those lower prices, and lower inflation, could never however be permanent. There is a limit to how far margins can be squeezed, as we may now discover. We are not heading into a period of seriously higher inflation but another downward influence may be diminishing in its impact.