Vijay Kumar Gaba

 The US Federal Reserve has comforted the global markets with assurance of maintaining strong intent to control prices while not being unnecessarily disruptive in terms of monetary tightening. The markets are apparently reading a 0.9% contraction in the US economy in 2Q2022, as sufficient ground for the Fed to be mindful of the likely disruptive impact of the future hikes; given that the US economy is technically in recession after having contracted for two consecutive quarters in 2022.

The marked slowdown in the economic activities in Europe and China; and easing of the global logistic bottlenecks has noticeably moderated the inflationary expectations, as reflected in the yield curves across the globe. The fears of 1930s type hyperinflation appear to have subsided, at least for now. The equity valuations are gradually adjusting to “above zero” and “neutral” interest rate regimes. The recognition of “positive rates” however is still missing from the popular narrative and hence remains a key risk.

The wider acceptance of the ground realities in respect of the Russia-Ukraine conflict is making it relatively easier to find amicable supply chain solutions. Gradually, the global community is beginning to accept that (i) the conflict may persist for longer than previously anticipated; (ii) stricter economic sanctions on Russia may not yields the desired results and in fact could produce material unintended consequences; and (iii) isolating Russia could provide significant impetus to the ideas of “de-globalization” and “polarization” of the world; raising the specter of multiple and larger geopolitical conflicts, and undermining the global consensus on important issue like climate change, poverty alleviation and denuclearization.

Two factors that can impede the process of returning to normalcy (yet a New Normal), in my view, are –

(1)   Compromise on the climate control targets, further aggravating the already erratic weather conditions across the globe.

The food shortages (and consequent food inflation) could worsen materially leading to reversal of advancements made towards poverty and starvation alleviation in the past three decades in particular. There could be widespread civic unrest; production and supply chain disruptions; and rise in loss of human lives due to hunger, violence and inclement weather.

(2)   Dominance of leftist ideology in global politics hampering creation of new capacities and perpetuating inflation.

As I had mentioned in one of my earlier posts (The Challenges of economic policy), a large number of countries are opting for left of center parties/leaders to govern them. Moreover, to counter the egalitarian agenda of left of center parties, even the right of center parties like conservatives in UK, BJP in India, LDP in Japan and Yemina in Israel are increasingly resorting to socialist agenda to retain power. Obviously, the top priority of governments across the world is immediate relief to the poor rather than growth. It is therefore more likely that the tighter monetary and fiscal conditions will continue to challenge the growth ecosystem in near future. The new capacity building may continue to lag; resulting in more frequent bouts of high inflation, as compared to the past two decades and hence larger volatility in financial stability and macroeconomic environment.