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Inflation
Muted Despite Surging Indexes
BY
PETER G. HALL 
EDC Vice-President
and Chief Economist
February
monthly price data for OECD economies are now hitting the wires, and are
sure to re-kindle inflation-chatter. Economic uncertainty has led to
disparate views of near-term price movements, at the risk of confusing
onlookers. Is the resumption of economic growth creating inflation
pressures?
A quick scan of recent consumer price indexes could prompt a hasty
“yes”. Just a few releases ago, price series in many countries were
showing year-to-year declines. But these series have swiftly surged to
the high end of central bank target ranges. Witness the base effect:
indexes weighed down by the late-2008 plunge in specific commodity
prices are now a year beyond those drops. Suddenly, today’s prices are
being compared with much lower, post-crash price levels. Fortunately,
month-to-month core price growth is modest, so the ramp-up in the
indexes has not caused undue concern.
So much for immediate concerns; are we facing a problem as the economic
recovery gains steam later this year? The base effect will actually see
price indexes stabilize in short order, but there is still buzz about
localized price pressure in certain economies, and the boost to specific
commodity prices from renewed emerging market demand. These are
legitimate concerns, but in general, the economic recovery still seems
far too young to generate sustained fundamental inflationary pressure.
Consider overall demand. Levels of activity are still well below
late-cycle peaks in most Western economies, and much more growth will be
needed to close the gap between current and potential output. Indeed,
key markets are still in the process of running down pre-recession
excesses. As such, global demand is still too weak an engine to pull
prices ahead at an unacceptable pace.
What about the cost side? Here too, evidence supports muted price gains.
First, utilization of global productive industrial capacity is well
below peak, suggesting that even if firms were faced with higher input
costs, they would be hard-pressed to pass them on. Second, there is an
abundance of near-term labour. Unemployment rates in most industrialized
economies are still close to peak levels, a situation that will keep the
lid on wage growth in the coming months.
Commodity prices are a thornier issue. A weakened US dollar and demand
pressures have boosted world prices for oil and base metals. But price
gains are far greater than the drop in the USD. This seems odd, since
oil inventories are about 10% higher than the 5-year average, and in
contrast to early 2008, there is lots of capacity to increase current
production if needed. In addition, official base metal inventories are
increasing at a rapid pace, and in certain cases are closing in on
previous highs. Demand may be on the rise, but there appears to be ample
supply to keep prices contained, raising the ugly possibility of an
all-too-rapid return to market-distorting speculation.
The current state of world demand strongly suggests subdued near-term
price growth, and that if specific one-off commodity or tax-related
price increases occur, suppressed overall activity levels should cause
these anomalous increases to be absorbed in other areas of the economy.
The bottom line? The world economy faces a number of possible near-term
pitfalls as it edges toward recovery. Broadly-based excess capacity
should prevent runaway inflation from being one of them.
The
views expressed here are those of the author, and not necessarily of
Export Development Canada.
©2009
EDC
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