Summary:
Stephen Roach (Morgan Stanley) acknowledges the US economy is at risk of stagflation, but believes the situation now is fundamentally different from the 1970s because 1) today's wages are delinked from prices; and 2) the threat emerges from inflationary pressures in Asia. China's inflation has had its sharpest rise in the last 4 month's since the early 90s. Not just due to food and energy prices rising, but also to wage pressure. Hyper-growth is seen as the panacea for the aspirations of Asia's growing middle class. China's central bank interest rates too low. Such monetary accomodation in an increasingly inflation-prone developing Asia spells a persistence of elevated price pressures in this vital segment of the global production chain. Threatens not only living standards of the newly-propserous in Asia, but will take an especially severe toll on those on the lower end of the income distributions. However, will also result in a price shock to imported goods in the developed world. (Published: 12/06/08)
Notes:
- risk of stagflation
- today very different from 1970s
- today's wages delinked from prices
- practically eliminates the automatic indexation features of the once dreaded wage-price spiral
- slowing economic growth in the industrial economies (cfr surge in US unemployment figures)
- opens up further slack in labour markets, putting downward cyclical pressure on wages over the next couple of years
- new threat to global inflation, not present in the 70s:
- price pressures in Asia lurching out of control
- consumer price index for developing Asia as a whole hit 7.5% in April 2008
- more than double the 3.6% of a year ago
- not without serious risks to the global economy
- Asia's now the world's producer
- globalisation of trade flows is a new transmission mechanism of worldwide inflation that was not evident in the 70s
- Chinese inflation: 8.3% average annual rate over the 4 months ending May 2008
- sharpest sustained increase on a year-on-year basis since mid 90s
- China's inflation problem much deeper than the food and energy price shocks that thus far have played a disproportionate role in driving its CPI higher
- also at work: serious wage pressures
- reflecting, in part, increases in minimum wages associated with new labour reform laws
- meanwhile, People's Bank of China has held its policy lending rate below headline inflation, resulting in negative real short-term interest rates
- result has been ominous increase in Chinese inflationary expectations
- strikingly reminiscent of similar occurrences that plagued the developed world in the 70s and 80s
- the longer such a trend persists, the more wrenching the monetary tightening required to arrest it and the greater the risk of a subsequent hard landing
- China not alone in its reluctance to take firm action against worrying build-up of inflationary pressures
- true throughout most of developing Asia
- hyper-growth is viewed as the panacea for the aspirations of a growing middle class
- throughout the region, central banks are keeping short-term interest rates far too low to combat these inflationary pressures
- such monetary accomodation in an increasingly inflation-prone developing Asia spells a persistence of elevated price pressures in this vital segment of the global production chain
- not only does that threaten living standards for newly prosperous households in the developing world
- also takes an especially sever toll on those at the lower end of the income distribution
- also provides a price shock to imported goods in the developed world
- these now play a much greater role in meeting the demands of domestic production
- World remains largely in denial over the outbreak of a new strain of stagflation
- the hopes of "core inflationists" depend on a reversion in food and energy prices to take headline inflation lower in the developing world
- but: this will be the sixth year in a row when that has not happened
- "market purists" are counting on currency adjustments, especially sharp appreciation of currencies in developing Asia, to temper the transmission of price pressures from these export-led economies
- but: these are not economies that want to use the currency lever to put their growth imperatives at risk
- note: "core inflationists"
- those analysis that look at core inflation rather than headline inflation
- i.e. without food and energy, resulting in a "cleaner" read on the underlying inflation
- Roach does not believe one can ignore food and energy price inflation because they are critically important components of household budgets, especially in poorer countries
