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Excellent commentary today by the Governor of the Bank of Canada, Mark Carney. He succinctly describes why the crisis is far from over and why the disinflation in the USA is likely to persist while inflation rages in emerging economies:

“Current turbulence in Europe is a reminder that the crisis is not over, but has merely entered a new phase. In a world awash with debt, repairing the balance sheets of banks, households and countries will take years. As a consequence, the pace, pattern and variability of global economic growth is changing, and Canada must adapt.

For the crisis economies, the easy bit of the recovery is now finished. Temporary factors supporting growth in 2010–such as the turn in the inventory cycle and the release of pent-up demand–have largely run their course. Fiscal stimulus is turning to fiscal drag and, for some countries, rapid consolidation has become urgent. Household expenditure can be expected to recover only slowly. This all implies a gradual absorption of the large excess capacity in many advanced economies.

This is not surprising. History suggests that recessions involving financial crises tend to be deeper and have recoveries that take twice as long. In the decade following severe financial crises, growth rates tend to be one percentage point lower and unemployment rates five percentage points higher.1 The current U.S. recovery is proving no exception.

In such an environment, very low policy rates in the major advanced economies could be in place for a prolonged period–a possibility underscored by the recent extensions of unconventional monetary policies in the United States, Japan and Europe.

This tendency towards low-interest rates is being reinforced by structural forces. The global economy is rapidly becoming multi-polar, with emerging-market economies now driving commodity prices, representing almost one-half of all import growth, and accounting for about two-thirds of global growth.

This is an increasingly uneasy emergence. Growth strategies reliant on exports and excess national savings are unsustainable in the long term. In the near term, for many emerging economies, the limits to non-inflationary growth are approaching and the challenges of shadowing U.S. monetary policy are increasing.

With currency tensions rising, some fear a repeat of the competitive devaluations of the Great Depression. However, the current situation is actually more perverse. In the 1930s, countries left the gold standard in order to ease monetary policy, and the system became more flexible.

Today, the process is working in reverse. The international monetary system is sliding towards a massive dollar block. Over a dozen countries are now accumulating reserves at double digit annual rates, and countries representing over 40 per cent of the U.S.-dollar trade weight are now managing their currencies.

This death grip on the U.S. dollar is reducing the prospects for rebalancing global demand. As the Bank of Canada has argued elsewhere, the potential costs are huge–up to $7 trillion in lost global output by 2015.2

Ultimately, excessive reserve accumulation will prove futile. Structural changes in the global economy will yield important adjustments in real exchange rates. If nominal exchange rates do not change, the adjustment will come through inflation in emerging economies and disinflation in major advanced economies.

This more wrenching adjustment has already begun, raising the risk of debt deflation and deficient global demand. At a minimum, this dynamic reinforces the low-interest-rate strategies of major advanced economies and may necessitate further rounds of quantitative easing.”

The full speech is certainly worth a read.

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