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  • Writer's pictureKarl Pichelmann

The spectre of stagflation

Once again, the world economy is haunted by the spectre of stagflation – the possible return of simultaneous high inflation and stagnating economic growth, as witnessed after the oil shocks in the 1970s. Consumer Price Inflation in the Euro Area came in at 8.1% in May this year, with core inflation approaching the 4%-mark; elsewhere, inflation climbed to 8.6% in the US and beyond 9% in the UK. And while the latest growth projections from international institutions such as the IMF, the OECD and the European Commission still see global growth at around 3% in 2022 – albeit being sharply revised downwards -, uncertainty about the outlook is unusually high, marked by prominent downward risks.

Against this background, the Bureau conversation discussed current economic conditions and scenarios for the prospects over the next 6-18 months. Obviously, the most prominent “known unknown” is how much longer Russia´s war against the Ukraine will last and how much worse it may get. Other global forces to consider include the pandemic, China`s uncertain economic outlook (with zero-Covid policies possibly continuing to disrupt supply-chains), and the parlous state of global economic and political governance generally.

Even if the worst of an outright food crisis can be averted, many low-income and emerging-market economies will be challenged even more by rising food and energy prices and slower demand growth in their export markets.

Participants agreed that much will depend on what happens with monetary and fiscal policy in the major advanced economies, and with second-round effects, in particular related to wage developments. Some feared that overly aggressive monetary tightening – spearheaded by the US FED - could trigger a tipping point into recession; similarly, it would increase the risk of highly disruptive capital outflows from emerging economies. It was acknowledged, though, that central banks face a difficult task to counter largely supply-side induced inflationary pressures. Fiscal policies can support to cushion the impact of higher prices, with temporary, well-targeted, means-tested fiscal measures seen by many as the best option. Almost all participants agreed that wage increases cannot fully offset the inflation shock if a price-wage spiral were to be avoided. The recent wage agreement in the German metal industry was mentioned as a good example for a well-balanced wage settlement.

In a nutshell, participants considered a short-run stagflation outcome as rather unlikely, provided a total stop of gas flows does not materialise. However, the existence of medium-term stagflation forces such as a retreat from globalisation, adverse demographics and climate change is probably darkening the outlook over the more longer term.

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