This article appeared originally in Gulf News: link to original article
Supplies of everything are running low and hence prices are going in the other direction. Does this mean that inflation will follow?
Taking stock of where we are at today with COVID-19 and an upcoming potential economic recovery, inflation is not expected to take off before there is more normalcy than there is now. Notwithstanding signs that prices of everything are rising, inflation across the globe is at varying rates, depending on the status of each economy and its recovery rate.
Inflation is also dependent on spending in the economy, and spending by governments, through stimulus programmes and other means, is one reason why we are witnessing price increases in a few countries. Spending by consumers is not at levels comparable to where they were prior to the pandemic.
Not only that, there is no clarity on how the shift to online shopping and spending would impact inflation rates and how they are measured. With that in mind, here are the two main trends that would decide inflation’s course over the coming years.
First, the current spike in prices is caused by supply levels that are below demand. This is because of a partly functioning supply chain and the closure of businesses that were contributing to global supply of different commodities and products.null
Together, their impact will sustain price spikes for a period that extends beyond the pandemic and into a global economic recovery from it, whenever that is. What this means is that as long as economic recovery across the globe is not equal, the mismatch between demand and supply will continue to exist.
Bring on the ‘revenge’
In fact, such a mismatch may as well grow in magnitude in the early stages of a global recovery, when ‘revenge spending’ – i.e., the exponential growth in demand – would outgrow and outpace supply for a period. Consequently, prices of everything would increase at rates equivalent to the disparity of demand and supply for the said commodity or product.
One must note that global normalcy does not necessarily mean normal supply. Consider food commodities. Small-scale farmers, in places with little government support, are the first to go out of business when there is a major disruption in global supply chains.
Since small-scale farmers are responsible for a significant share of all food produced, their ouster from the global food production and trade system would mean a slow recovery in the prices of food to normal and acceptable levels. That would also be conditioned on whether or not other farmers can step up and make up for lost production.
The same logic would apply to other businesses in other sectors if the disruption in global supply chains caused their closure. That is, how soon supply can catch up with demand would depend on how many businesses are left in the aftermath of COVID-19 to pick up lost supply due to the pandemic and its disruption to supply chains.
Various forms to a stimulus
Secondly, government stimulus programmes have taken different shapes and forms. For instance, there are countries like the US that decided to send cheques directly to individuals among other measures. In Denmark and in Germany, support for small and medium Businesses (SMEs) is quite distinctive, with the government paying a certain share of the payroll bill for those SMEs.
Other European countries, with sizable tourism and hospitality sectors, directed their financial support towards SMEs and businesses in the said sectors. Countries like the UAE opted for indirect financial support. Such support was seen through the exemption of renewal and other fees for businesses and by ensuring the availability of liquidity for banks and their corporate clients.
Given the lack of uniformity in government stimulus programmes, the impact of each would vary based on how much wealth has been transferred from the government to other segments in the economy, and the appetite of the later to spend that money.
What this means is that spending, whether by consumers or by businesses, would be subject to how certain both are about the economy’s trajectory and the speed of economic recovery. For businesses in particular, their global footprint would link their capital and other forms of spending to opportunities abroad, which in turn are linked to economic recovery elsewhere.null
Not a certainty
Therefore, spending by businesses should not be taken for granted if economic recovery is not taking place away from home. Individuals would also need to feel confident about their own employment prospects to be encouraged to spend their earnings in a post COVID-19 period.
Growth in demand would be contingent upon an equal global economic recovery for businesses and certainty in terms of employment and earnings for individuals. To summarise, there are already signs of inflation in different parts of the world.
Those signs are indicative of a post-pandemic period during which inflation, on average, would be significantly higher than where it was before the pandemic. Inflation rates will be determined by two trends.
The first has to do with the divergence between demand and supply for various commodities and products. Ostensibly, demand will be higher than supply for years to come.
Government spending, as the second trend that could directly and indirectly cause higher inflation rates, cannot be sustained for long beyond the pandemic. Demand, by businesses and individuals, would decide where inflation goes.
Though governments have mitigated unemployment risks and encouraged spending by businesses and individuals through various stimulus programmes, including financial and non-financial aid, guaranteeing future spending by both is far from certain.
The last thought that I want to leave you with: How much would a rising minimum wage contribute to inflation?