In the past one year, inflation has been one of the primary concerns for most countries across the globe. Rising prices of food and energy in particular have materially impacted the lives of common people on all continents. The central bankers of most major economies have hiked policy rates in the past one year to control inflation. In the current year 2023 so far, 13 major central bankers have taken policy action(s) and all of these actions have been hike in policy rates.
However, in recent weeks inflation has shown some tendency of cooling down. It is difficult to assess how much of this cooling down is due to tighter monetary conditions; and how much could be attributed to other factors like restoration of supply chains that were broken during the pandemic and warmer winters resulting in lower energy demand in the northern hemisphere, etc. Nonetheless, some central bankers have adjusted the pace of tightening to smaller hikes. Most of them, though remain circumspect about the persistence of inflation. While the debate continues over the trajectory of price hikes in the next few quarters; an overwhelming majority of experts believe that prices may remain high for much longer.
The global growth forecasts have witnessed some downgrades in the past six months as tighter monetary conditions and higher prices are seen hurting demand for consumption and investment. As per the latest assessment of the World Bank, in 2023 “the world economy is set to grow at the third weakest pace in nearly three decades, overshadowed only by the recessions caused by the pandemic and the global financial crisis….Major economies are undergoing a period of pronounced weakness, and the resulting spill-overs are exacerbating other headwinds faced by emerging market and developing economies (EMDEs).”
With this background, three key issues that could influence the future trajectory of global prices and therefore interest rates are geopolitical situation; impact of China ending Covid restrictions and the impact of the emergence of El Nino on global food production.
Geopolitical conflict in Eastern Europe (Russia-Ukraine) has materially influenced the prices of energy and food in the past one year. Any worsening or this conflict or expansion to Western Europe could make things worse. Some events in the recent weeks have indicated that Sino-US relations may not improve anytime soon. NATO countries hardening their stand on Russia; Russia retaliating with a cut in energy output; and some key OPEC members openly expressing disagreements with US oil pricing has materially increased the uncertainty in the energy market.
China has been gradually relaxing the covid restrictions for the past many months. This has eased the logistic logjam across the world. The supply chains that were broken due to congestion at major ports, shortage of containers, short supply of key raw materials, and poor take-off have mostly been repaired. The freight rates that had become prohibitively high have eased to pre Covid (2019) levels. The debatable question however is whether China reopening will be inflationary (higher demand) or deflationary (complete supply chain restoration and consequent destocking; improved mobility of workers etc.).
As per the latest forecast of various weather agencies (see here), the probability of El Nino conditions developing in the coming summer could impact the agriculture production in major countries like India, this year. If these forecasts come true, we may see food prices remaining at elevated levels.
A variety of views prevail on these three issues and their outcome. In my view, China reopening will indubitably be deflationary for the global economy, especially metals and other raw materials).
I am however not sure about the geopolitical conditions. I would therefore continue to expect elevated crude oil prices through 2023. By the way, the RBI in its latest statement has assumed the price of Indian basket of crude oil to be US$90/bbl for FY24, against the current price of US$84.19/bbl (see here).
It is little early to talk about weather conditions in the forthcoming summer and its eventual impact on global food prices. For now, the Rabi crop in India appears to be good; and there is enough food in the Indian granaries. Thus availability of food should not be a problem for sure even if we had a poor monsoon year after three normal/excess monsoons.
