(John Kemp is a Businesshala Market Analyst. Views expressed are his own)
LONDON, Oct 14 (Businesshala) – Global inflation is spreading across a wide range of goods and services, as a rapid recovery in spending impacts the short-term ability of manufacturers, freight firms and service providers to increase production.
Previously characterized by policymakers as “transient”, the rise in inflation as the economy recovers from an exceptionally deep coronavirus-induced slowdown has proved bigger and more persistent than they expected.
Rapid price increases are already becoming embedded in the expectations of consumers and investors, increasing the likelihood that they will attempt to restore their lost purchasing power as homes and firms.
If households succeed in pushing for wage increases, it would create conditions for a wage-price spiral, raising the possibility that fiscal and monetary policy would have to be tightened more aggressively.
If they don’t, the erosion of real income and purchasing power will weigh on consumer spending, increasing the likelihood that expansion will lose its current momentum.
Either way, the acceleration of inflation has become a major headwind for the global economy, and the stronger this process, the bigger the negative impact on growth next year. (tmsnrt.rs/3FLA9oM)
In the United States, the consumer price index has grown at a compounding rate of about 3.4% per year over the past two years, slightly higher than the central bank’s unofficial target of 2.0% per year.
At this rate, the real purchasing power of wages would halve every 20 years, which is noticeable for most households.
Even excluding volatile food and energy goods, core consumer prices have risen at a compound annual rate of about 2.9% over the past two years, the fastest growth for a quarter of a century.
After an exceptional second quarter, core inflation has moderated slightly in recent months as businesses reopened after the lockdown.
But core prices were rising at an annual rate of over 2.7% in the three months from June to September, which was in the 83rd percentile for all three-month periods since 1995.
Inflation intuitively feels accelerating as it is relatively faster than the one experienced in the last quarter of a century.
Consumers have begun to notice and update their expectations about future inflation based on their recent experience of price increases.
According to the University of Michigan’s monthly consumer survey, American consumers now expect prices to increase by an average of 4.6% over the next twelve months and an average of 3.0% per year for the next five years.
Consumer expectations for inflation next year are the highest since 2011 and in the 98th percentile for all months since 1995, indicating that households are preparing for a highly inflationary environment.
Expected inflation over the next five years is the highest since 2013 and in the 74th percentile for all months since 1995, with a significant portion of the recent acceleration in price growth expected to prove sustainable.
Professional investors and bond traders have also begun to notice rapid inflation and demand higher returns to offset it, adding pressure to bond and equities prices.
Based on the break-even rates between traditional US Treasury notes and inflation-protected securities, consumer price inflation is expected to average over 2.5% per year for the next ten years.
Expected inflation, as implied by break-even rates, is now in the 93rd percentile for all months since the beginning of 1997, meaning that a relatively inflationary environment is likely to persist.
The acceleration of price increases is not limited to the United States, but is evident in all major economies of the world and in the supply chain from raw materials to producer prices and consumer prices.
In China, producer prices rose more than 10% in September compared with the same month a year earlier, a record increase, as factories struggled to secure enough raw materials and electricity.
In the euro area, consumer prices rose 3.4% in September from a year earlier, the fastest increase since 2008, with recent increases in gas and electricity prices set to push inflation even higher in the coming months. determined for.
The World Bank’s monthly survey of commodity prices 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 want to boost real and expected rates from pre-pandemic lows, they have already succeeded, with inflation eroding through their previous forecasts.
The question now is whether the boom will burn itself out as wages and income increase fails to deprive the process of inflation of the fuel needed.
Or whether central banks will have to roll back some of the stimulus and tap the brakes to help bring back the forces of inflation they helped bring back under control.
The most likely outcome is an early-recovery stall or mid-cycle recession during 2022 or early 2023 as the US and global economies lose some of their momentum.
Business cycle conditions are often described in binary terms as “expansion” or “bearish”, but this is a simplification.
In fact the rate of growth is highly variable, with alternating periods of acceleration and deceleration, and only the deepest slowdown is described as a recession.
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 Business Cycle Dating Committee announced only six official recessions, on average one every 6–7 years.
Most expansions (the phase of the business cycle between official recessions) included at least one early-recovery growth stall and/or a mid-cycle slowdown in subsequent expansions.
An early-stall or mid-cycle recession resulted in a loss of momentum, but was not enough to propel the economy into a complete recession.
The last two business cycle expansions saw early stalls in 2002/2003 and 2012/2013, respectively, often described by policymakers as “soft spots” or “pauses”.
The most recent business cycle saw a slowdown later in 2015/16, which can be described as a mid-cycle recession, a near-recession, or even an undeclared recession.
Discontent with the economy stemming from the near-recession of 2015/16 probably explains the anti-incumbency populist wave that swept Donald Trump into the White House.
Central bank officials are keen to avoid a repeat of past early recovery stalls, which explains why they have tried to keep interest rates very low and prolong bond buying programs.
The objective is to strengthen the recovery as much as possible and maximize the underlying momentum before starting to withdraw the stimulus. However, an increase in inflation is a significant complication.
The expansion of the current business is now in its 18th month, which suggests that the risk of loss of momentum is significant over the next 12-24 months, with rising inflation and withdrawal of stimulus as potential triggers.
– Rapid US inflation wipes out years’ undershoot targets (Businesshala, July 14)
– Fed focus on jobs means significant inflation overshoot (Businesshala, May 18)
– Inflation-tolerant Fed will boost commodity prices (Businesshala, April 30)
– Global manufacturing growth accelerates commodity inflation (Businesshala, March 2) (Editing by Kirsten Donovan)