COMMENT: Growth versus inflation

By bne IntelliNews March 4, 2011

Marcus Svedberg of East Capital -

Economists have more or less stopped fretting about the growth outlook - even the most bearish have stopped talking about the risk of a double dip - and most forecasts have been revised up lately. This does not mean that economists have turned optimistic all of a sudden, as they have started instead to worry about inflation.

Stronger growth

The International Monetary Fund (IMF) revised up its forecast for global output in 2011 from 4.2% to 4.4% in January. Many of the investment banks have done the same on the back of stronger-than-expected Chinese growth and, more importantly right now, a better outlook for the US economy on the back of the extension of tax breaks and another round of quantitative easing (QE2). The fact that Germany is also growing briskly at the moment is helping, although growth in the Eurozone will stay below 2% this year, as fiscal consolidation should start to impact domestic demand (the worse-than-expected UK growth released in February is illustrative of this). Emerging markets will continue to outgrow the developed world by a substantial margin and the European Bank for Reconstruction and Development (EBRD) increased its growth forecast for Central and Eastern Europe recently.

The growth this year is arguably more solid than last year since stimulus money already has been, or is in the process of being, phased out. Moreover, the base effect is not low anymore after global growth for 2010 surprised economists and analysts on the upside.

Accelerating inflation

Inflation has picked up considerably lately on the back of the stronger-than-expected economic growth and, most importantly, rapidly rising commodity prices in general and food prices in particular. This has already created social unrest in a number of poorer countries and there is a risk that it will lead to protectionist policies. The spike in food prices is also causing concerns about the inflationary outlook on emerging markets, not least because food is such a large part of the CPI basket in those countries.

With strong growth in the US and Germany, we may see more inflationary pressure going forward. In the Eurozone, inflation edged up to 2.4% in January, which is the highest number in over two years and significantly above the target. That should lead to higher rates, which could create problems within the club, as many of the southern countries will be in deflationary moods.

The problem should not be overstated though. The IMF revised up its inflation numbers marginally in its January outlook, but believe they will stay low over the year in both developed and emerging economies.


We argued in our outlook for this year that growth should be strong and inflation should not be a major concern. We confirm this view, as the inflation level is not yet a cause for concern, even though the surge in food prices is exacerbating the "normal" inflationary pressures coming from the economic recovery.

There is still plenty of slack in most economies - high unemployment, spare physical capacity and weak credit demand - suggesting that core inflation will not get out of control. Moreover, food price inflation should decrease in the second half of the year if harvests are normal or good.

Economists often claim that it is not possible to have strong growth and low inflation. I believe that's still the case over time, but we are still in an extraordinary period. Things can change very quickly, however.

Marcus Svedberg is Chief Economist at East Capital

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