Why Jay Powell Needs to Start Tracking the News from Kherson

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Children stand on a playground in front of a destroyed building in Kalinivka, north of Kyiv, on September 15, 2022. Christopher Smart writes, Ukraine’s recent counter-attack is set to make the task of the US Federal Reserve more difficult.

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Sergei Chuzavkov / AFP via Getty Images

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About the Author: Christopher Smart Chief global strategist and head of the Barings Investment Institute, and a former senior economic policy officer at the US Treasury and the White House.

Rarely are dry price figures from Washington and distant, horrific battle scenes so intertwined, but the rapid progress of Ukrainian forces is set to fuel global inflation further. As the Federal Open Market Committee prepares for its next interest rate hike, its members should keep in mind that rising global tensions could sustain US inflation long after domestic pressures ease.

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Emotional images of Ukrainians embracing free soldiers will double down on Western determination to support Kyiv, while a brutal Russian response will undoubtedly lead to toughening of sanctions and disruptions in commodity markets. China’s continued support for Russia, meanwhile, will fuel calls for even more tariffs and sanctions against Beijing, even in a more limited form expressed on Thursday at the Central Asian summit. (Oh, and at some point, the dollar will push up the price of US imports, too.)

The latest consumer price index showed a fall in inflation for the third consecutive month. But it may not reach the lower limit any time soon. Exclude the volatile categories of food and energy, and prices rose 0.6% last month. Tight labor markets and resilient consumer spending make attempts to push inflation back to the Fed’s 2% target, which looks slower and bumpier than anyone else. Current market expectations that the Fed may begin cutting rates as early as next spring seem optimistic.

Beyond the dynamics of the US economy, however, the global picture seems less and less helpful. Over the past several days, Ukraine has driven out Russian troops in a retaliatory operation aimed at taking back the strategic port city of Kherson. The surprising advance reinforces the argument that Western weapons, training and loans deliver results. US defense has been spent creeping out as a ratio to GDP over the past five years, but is now set to rise sharply when the Senate votes on a defense budget for next year that could be as high as $847 billion– Huge growth of 17% in Europe and Asia due to inflation and rising security threats. America is also ready to expand already widespread Support Ukraine’s economic recovery.

Russian President Vladimir Putin would naturally order a military response to the current setback that would lead to further disruption of global energy markets. He has been reluctant to order a general mobilization that would be widely unpopular, while talk of nuclear escalation at this stage would be tantamount to acknowledging what Russian campaigners described as a limited “special operation” has failed. But there will certainly be a brutal counterattack that involves artillery pounding cities, destroying critical infrastructure and killing civilians.

This dynamic will strengthen European determination to end energy purchases from Russia and spur new efforts encourage India and others To reduce its own Russian oil business. 1 july deal Ukrainian and Russian wheat and fertilizer exports through the Black Sea may not be renewed when they expire in November, which is likely to deal another blow to global food prices.

Putin fired lukewarm support With Chinese President Xi Jinping at the Samarkand Summit. China’s trade with Russia continues to expand. Beijing has opted not to violate US sanctions against Russia, but its continued oil purchases and refusal to condemn Ukraine’s invasion will further worsen relations with Washington. With glimmering hopes of a tariff cut that will reduce US inflation, the fight is unlikely to escalate. In fact, US firms doing business in China should be prepared for more tariffs and sanctions in the coming months.

Adding to this cocktail of higher defense spending, rising commodity prices and new tariffs will likely result in a dollar that will not be able to maintain its current super-strong exchange rate. Deteriorating geopolitics usually increase the attractiveness of the dollar as a safe haven, but it is difficult to maintain current valuations after the end of the Fed hike. A weaker dollar will make imports more expensive and keep inflation warm.

Federal Reserve Chairman Jerome Powell and his allies can do little about these pressures without constructive American diplomacy. At some point, Russia and Ukraine will have to come to terms; US arbitration which includes concessions on existing sanctions will be an important part of the package. Meanwhile, China’s relationship requires a long-term approach that allows Beijing to share the global stage with Washington, even if sharp differences remain. Without it, the world’s two largest economies would be headed in a dangerous direction that adds risks and costs to global commerce, even if they manage to avoid a direct military conflict.

Such diplomatic initiatives are probably years away if they are even possible. For now, the Fed will need to keep a close eye on news from eastern Ukraine and rising geopolitical tensions that will make handling an already challenging mandate even more difficult.

Such guest comments are written by writers outside of Barron’s and Marketwatch newsrooms. They reflect the perspective and views of the authors. Submit commentary proposals and other feedback [email protected],

Credit: www.marketwatch.com /

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