Will inflation offer any unpleasant surprises?
Answer: No

Inflation has long been the dog that didn’t bark. Despite over a decade of low interest rates, price rises have remained low across much of the world, while economic growth rates have generally fallen beneath hopes and expectations.

The world’s response to the Covid-19 pandemic has fostered an environment in which inflation could once more flourish. Governments across the world have splurged money to prevent mass unemployment or economic depression, even as central banks have ensured massive bouts of liquidity can support the needs of financial institutions.

This glut of spending could feed into the cost of goods and services at some future point, particularly if central banks don’t recalibrate quickly enough once the eventual mass-distribution of Covid vaccines allows economies to recover.  

There have already been a few warning signs of prices inching up once more. Yields of the US 30-year treasury bond topped 2% for the first time in close to a year on February 8, fuelled by advancing talks on the country’s $1.9 trillion fiscal stimulus plan and the debt spending it will entail. Brent crude oil hit $60 a barrel on the same day, the first time it had done so since the outbreak of Covid-19.

Yet while inflation pressures could cause a modest surprise, it appears unlikely to offer any really unpleasant shocks, at least this year. A major reason for this is that the need of countries to retain social limitations over the coming six months will remain disinflationary, given the amount of slack in the global economy.

According to the Organisation for Economic Co-operation and Development’s forecast, global inflation is expected to return to a stable but still low level from the second quarter and beyond, averaging 1.5% to 1.8% across OECD countries, while that of the US and China appears set to remain low and easily controlled.

Source: Organisation for Economic Co-operation and Development

That said, abundant liquidity today could foster a spending boom once normal economic activity resumes, hopefully in the third or fourth quarters. Stronger demand would force prices higher and could drive inflation to another level, particularly into 2022. However, there are few signs this is likely in the coming months.

In the US, inflation in the short term could pick up – potentially to above 2% over the coming several months. That would not overly concern the Federal Reserve, which in September 2020 moved to a new policy of ‘Average Inflation Targeting’ that seeks to achieve an average inflation rate of 2% over time.

Eurozone CPI rose last month, but only to a meagre 0.9% year on year. That was a welcome result following months of price drops, and it is hoped that it could finally herald a period of low but sustained inflation. Meanwhile, China was one of the few nations to record economic growth in 2020, and its policymakers appear to be confident enough that they are beginning to pull back on some policy stimulus measures.

But the country’s inflation stood at a 10-year low of 0.4% in December after averaging 0.5% for the previous five months, and it then fell to -0.4% in January. Those rates will not require the People’s Bank of China to precipitate monetary policy tightening any time soon.  

The world faces many concerns, including recovery from the pandemic and uncertain geopolitical tensions. But a spike in inflation does not rank high among them, at least for the foreseeable future.

Previous Year of the Ox outlooks: 

Which Asia Pacific countries have the most to gain, and the most to lose, from a Biden presidency?