A stubbornly strong economy complicates the fight against inflation

Economy

A stubbornly strong economy complicates the fight against inflation

Published

3 weeks ago

March 8, 2023

Harry Miller

You mighT have expected the fastest tightening of global monetary policy in 40 years to deal a heavy blow to the world economy. Yet in 2023 it seems to be shrugging off the effects of higher interest rates. Not only is inflation stubbornly high, but economic activity also appears to have quickened. Faster growth may sound good, but it is a headache for policymakers, who are trying to bring about a managed slowdown. And it could mean that a recession, when it eventually strikes, is more painful.

At the end of last year, according to business surveys, manufacturing and services output were shrinking around the world. Today manufacturing output is flat and services are rebounding. American consumers are spending freely. Both wages and prices continue to grow fast, even in places where they were long stagnant. Japan looks set for a round of bumper wage rises in the spring. In the euro zone the monthly rate of “core” inflation, which excludes food and energy prices, broke records in February. Labour markets are extraordinarily tight. As we report this week, in half of the members of the oecd, a group of mostly rich countries, employment rates are at record highs.

From equities to credit, financial markets are priced for global economic growth that is above trend. Not so long ago, investors were debating whether the world economy would face a “hard landing” involving a recession, or a “soft landing”, in which inflation was conquered without any downturn. Today they are asking whether the world economy is landing at all.

There are several reasons for the apparent acceleration. The mini-boom that took hold in the markets late in 2022 stimulated animal spirits. China’s reopening from zero-covid has led to a swift economic recovery which has caused order books in emerging markets to fill up. Falling energy prices in Europe have loosened the screws on its economy. But above all else, consumers and firms in most big economies are in strikingly good financial health. Many households are still flush with savings built up during the covid-19 pandemic; firms managed to lock in low interest rates for long stretches and have yet to suffer much from higher borrowing costs. Only in the most rate-sensitive sectors of the global economy, such as property, is the impact of higher rates clearly visible. In America the economy is so strong that even housing may be recovering slightly.

The acceleration means that recession is not imminent. But it also means that central banks will have to raise interest rates further if they are to succeed in returning inflation to their 2% targets. On March 7th Jerome Powell, the chairman of the Federal Reserve, hinted as much, causing stockmarkets to fall. Policymakers now face two difficult judgments.

The first is the extent to which monetary tightening to date has yet to have its full effect. Economists often talk up the “long and variable lags” with which interest rates work, but research suggests policy may be working faster today. If the effects of last year’s tightening are already exhausted, much more may be needed. A second judgment is over the persistence of the factors that seem to have immunised much of the economy from rate rises. Eventually, consumers will run out of spare cash and firms will feel the pinch from higher borrowing costs. In countries such as Sweden, where interest-rate rises rapidly pass through to households, the economy is suffering.

One thing is clear: the ideal path, where inflation falls without growth faltering much, looks narrower than it did even a month ago. Instead, central banks are increasingly likely to have to choose between tolerating higher inflation or slamming on the brakes for a second year running. ■

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Economy

Can Russia and China succeed in dethroning the dollar?

Published

9 hours ago

April 1, 2023

Harry Miller

From: Counting the Cost

Russia turns to China’s Yuan as its foreign currency of choice and supports it in trade with other countries.

Since being shut out of much of the global financial system, Russia has sought alternatives to soften the effects of Western sanctions.

It has turned to China for an economic lifeline and has been increasingly embracing the yuan.

Trade between the two countries hit a record of $190bn last year, with much of those payments made in Chinese and Russian currencies.

The two biggest geopolitical rivals of the United States want to counterbalance the dominance of the dollar worldwide.

Elsewhere, Ukraine has won the IMF’s first loan to a country at war.

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Economy

Charting the Global Economy: Recovery in China Gathers Pace

Published

14 hours ago

April 1, 2023

Harry Miller

8fk]oem8pg219s085bjy8e62_media_dl_1.png Bloomberg RSS

(Bloomberg) — China’s recovery gained traction in March, showing the world’s second-largest economy is strengthening after stringent pandemic restrictions were dropped and Covid infection waves eased.

In Europe, inflation excluding food and energy costs hit a record last month, reinforcing calls from several European Central Bank officials that more interest-rate increases are needed. In the US, however, core price pressures eased in February by more than forecast, which may allow the Federal Reserve to pause rate hikes soon.

Here are some of the charts that appeared on Bloomberg this week on the latest developments in the global economy:

Asia

China’s economic recovery gathered pace in March, with gauges for manufacturing, services and construction activity remaining strong, boosting the outlook for growth this year.

South Korea’s construction deals fell by a record margin in the fourth quarter as the property market cooled with rising interest rates weakening demand and inflation fueling costs.

South Korea is forecast to overtake China in spending on advanced chipmaking equipment next year in a sign of US export controls reshaping global supply chains for semiconductors.

Europe

Underlying inflation in the euro area hit a fresh high, handing ammunition to ECB officials who say interest-rate increases aren’t over yet. The rise to 5.7% in March’s core price reading, which strips out volatile items like fuel and food costs, came alongside a record plunge in headline inflation to 6.9% from 8.5% in February.

While Sweden sits between France and Switzerland in a ranking of dollar billionaires, many poorer Swedes have seen the gap between the haves and the have-nots widen dramatically in recent times. At the heart of Sweden’s woes is a dysfunctional housing market, which has not only cemented social divides, but exacerbated them.

A key gauge of US inflation rose in February by less than expected and consumer spending stabilized, suggesting the Fed may be close to ending its most aggressive cycle of interest-rate hikes in decades. Excluding food and energy, the core personal consumption expenditures price index climbed 4.6%, matching the smallest annual increase since October 2021.

Banks reduced their borrowings from two Fed backstop lending facilities in the most recent week, a sign that liquidity demand may be stabilizing. US institutions had a combined $152.6 billion in outstanding borrowings in the week through March 29, compared with $163.9 billion the previous week.

The biggest banking scare since the 2008 financial crisis will ricochet through the economy for months as households and businesses find it harder to gain access to credit. That’s the scenario facing the US after the collapse of three regional lenders, and a giant global one, over an 11-day span, according to several economists.

World

South Africa and Ghana each lifted rates by more than expected, and Thailand signaled more tightening is on the horizon. Mexico slowed its pace of hikes while Hungary’s resisted government pressure to start monetary easing. Colombia increased rates to a 24-year high and Egypt went ahead with a jumbo hike.

Bank of Japan Governor Haruhiko Kuroda changed the course of global markets when he unleashed a $3.4 trillion firehose of Japanese cash on the investment world. Now Kazuo Ueda is likely to dismantle his legacy, setting the stage for a flow reversal that risks sending shockwaves through the global economy.

Emerging Markets

President Vladimir Putin’s drive to expand Russia’s armed forces is adding to labor shortages as his war in Ukraine draws hundreds of thousands of workers into the military from other sectors of the economy. The total number taken into service is likely to have exceeded half a million, according to Bloomberg’s Russia economist Alexander Isakov.

—With assistance from Ruth Carson, Enda Curran, Alexandra Harris, Sam Kim, Masaki Kondo, John Liu, Michael MacKenzie, Reade Pickert, Chris Reiter, Zoe Schneeweiss, Mark Sweetman, Craig Torres, Alexander Weber and Anton Wilen.

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