Column-The global economy faces the biggest headwinds of inflation
By John Kemp
LONDON (Reuters) – Global inflation is spreading to a wider range of goods and services, as the rapid recovery in spending outstrips the near-term ability of manufacturers, freight companies and service providers to increase demand. production.
Previously characterized by policymakers as ‘transient’, the rise in inflation as the economy recovers from the unusually deep coronavirus-induced recession has turned out to be larger and more persistent than expected
Faster price hikes are already ingrained in consumer and investor expectations, increasing the likelihood that they will take hold as households and businesses attempt to restore lost purchasing power.
If households are successful in pushing wage increases, it will create the conditions for a wage-price spiral, increasing the likelihood that fiscal and monetary policy will need to be tightened more aggressively.
If they don’t, the erosion of real incomes and purchasing power will weigh on consumer spending, which in turn increases the likelihood that the expansion will lose some of its current momentum.
Either way, accelerating inflation has become the main obstacle to the global economy, and the more entrenched the process, the greater the negative impact on growth next year will be. (https://tmsnrt.rs/3FLA9oM).
In the United States, the consumer price index has risen at a compound rate of nearly 3.4% per year over the past two years, well above the central bank’s informal target of just over 2.0% per year.
At this rate, the real purchasing power of wages would halve every 20 years, fast enough to be noticeable for most households.
Even excluding volatile food and energy products, basic consumer prices have risen at a compound annual rate of nearly 2.9% over the past two years, the fastest rise in a quarter of a century.
Core inflation has moderated somewhat in recent months, after an exceptional acceleration in the second quarter with the reopening of businesses following closures.
But basic prices were still increasing at an annualized rate of over 2.7% during the three months of June to September, which was in the 83rd percentile for all three-month periods since 1995.
Inflation seems instinctively fast because it is relatively fast compared to the experience of the last quarter century.
Consumers have started to notice and update their expectations for future inflation based on their recent experience with price increases.
U.S. consumers now expect prices to rise an average of 4.6% over the next twelve months and an average rate of 3.0% per year for the next five years, according to the monthly survey. of consumers at the University of Michigan.
Consumer expectations for inflation over the next year are the highest since 2011 and in the 98th percentile for all months since 1995, indicating that households are bracing for a very inflationary environment.
Expected inflation over the next five years is the highest since 2013 and at the 74th percentile for all months since 1995, implying that a significant portion of the recent acceleration in price increases is expected to be sustainable.
Professional investors and bond traders have also started to notice faster inflation and demand higher yields to offset it, putting downward pressure on bond and stock prices.
Consumer price inflation is expected to average just over 2.5% per annum over the next ten years, based on the breakeven rates between conventional US Treasuries and US-protected securities. ‘inflation.
Expected inflation, as reflected in breakeven points, is now at the 93rd percentile for all months since the start of 1997, again implying that a relatively inflationary environment is likely to persist.
The acceleration of price increases is not confined to the United States, but is evident in all major economies around the world and throughout the supply chain, from raw materials to farm gate prices and farm gate prices. consumption.
In China, producer prices rose more than 10% in September from the same month a year earlier, a record increase as factories struggled to get enough raw materials and electricity.
In the euro area, consumer prices rose 3.4% in September from a year earlier, the fastest rise since 2008, with recent increases in gas and electricity prices expected to push the inflation even higher in the coming months.
The World Bank’s monthly commodity price survey shows that energy prices have increased at a compound annual rate of 20% over the past two years, while food prices have increased by 19%. % per year.
If the world’s major central banks wanted to raise actual and expected rates from pre-pandemic lows, they have already done so, with inflation exploding through their previous forecasts.
The question now is whether the upsurge will die out when wages and incomes fail to keep pace, depriving the inflationary process of the necessary fuel.
Or whether central banks will have to withdraw some stimulus measures and put on the brakes to contain the inflationary forces they have helped unleash.
The most likely outcome is an early recovery stall or a mid-cycle slowdown during 2022 or early 2023 as the US and global economies lose some of their momentum.
The state of the business cycle is often described in binary terms as “boom” or “recession,” but that’s a simplification.
In reality, the growth rate is very variable, with alternating periods of acceleration and deceleration, and only the deepest downturns are qualified as recessions.
In the United States, the Institute for Supply Management’s purchasing managers index for manufacturing shows at least 11 significant slowdowns in growth since 1980, on average one every 3-4 years.
During the same period, however, the National Bureau of Economic Research’s Business Cycle Dating Committee reported only six official recessions, an average of every 6 to 7 years.
Most expansions (the phase of the business cycle between official recessions) contained at least a slowdown in growth early in the recovery and / or a mid-cycle slowdown later in the expansion.
Early or mid-cycle slowdowns caused a marked loss of momentum, but not enough to tip the economy into a full-blown recession.
The last two expansions of the business cycle saw early stops, in 2002/2003 and 2012/2013 respectively, which were often described at the time by policymakers as a “weak point” or a “pause”.
The most recent business cycle also experienced a subsequent deceleration in 2015/16, which could be characterized as a mid-cycle slowdown, near-recession, or even an undeclared recession.
The dissatisfaction with the economy resulting from this near-recession of 2015/16 likely explains the anti-titular populist wave that swept Donald Trump into the White House.
Central bank officials are keen to avoid a repeat of previous blockages in the early recovery, which is why they have tried to keep interest rates ultra-low and keep buying programs. ‘bonds longer.
The aim is to anchor the recovery as much as possible and maximize the underlying momentum before starting to withdraw stimulus. However, rising inflation is a significant complication.
The current business expansion is now in its 18th month, suggesting that the risk of a loss of momentum over the next 12-24 months is significant, with inflation rising and policy measures withdrawn. raise as likely triggers.
– Faster inflation in the United States erases years of below-target targets (Reuters, July 14)
– The Fed’s focus on jobs implies a significant overshoot of inflation (Reuters, May 18)
– Inflation-tolerant Fed to push commodity prices up (Reuters, April 30)
– Global manufacturing surge accelerates goods inflation (Reuters, March 2)
(Edited by Kirsten Donovan)