IYANATUL ISLAM |
There is a great deal of concern being expressed on inflation across many parts of the world today. In the United States, this inflationary spike is being politicized as ‘Bidenflation’ by the Republican Party. The explicit reference to the current US administration led by Democrat President Joe Biden is meant to suggest that rising prices can be attributed to policy mismanagement.
One needs to move beyond the partisan politics of a particular country to form a balanced view on the extent to which inflation should indeed be a matter of concern. This will shape monetary policy responses. What if the current state of monetary policy accommodation to support the expansionary fiscal stance of governments in systemically important countries is abandoned on the ground that inflation control should be accorded priority? The risk is that one might see the beginning of a new age of austerity that could derail an incipient recovery from the global recession of 2020 caused by COVID-19.
Adopting a historical and global perspective is important. The 1980s and 1990s were indeed the age of high inflation that bedevilled emerging market and developing economies (EMDEs). At one point (1993), inflation exceeded 100 percent for EMDEs as a whole (!) – see Figure 1. The Asian region did significantly better than the rest of the developing world but still suffered from sustained bouts of double-digit inflation.
By the beginning of 2000, inflation for the EMDEs came down to single digits, while for Asia the reduction in inflation was even more impressive. It is this conquest of high inflation in the developing world—and Asia at large—that is the singular achievement of orthodox macroeconomics practiced by central banks and finance ministries who were, in turn, aided and abetted by the international financial institutions (IFIs). On the other hand, it was a Pyrrhic victory because the 1980s and 1990s were also the era of the ‘lost decades’ for many developing countries. Hence, trying to squash rising inflation at the first sign of its incidence has to be dealt with caution. A pre-emptive strike against inflation on the ground that it will mutate into a dangerous and endemic phenomenon is not necessarily an optimal strategy, especially in light of what has happened since 2000.
For the last 20 years (2000-2020), the average inflation rate for EMDEs was 6 percent, while for Asia the inflation rate ranged between 3.9 and 4.6 percent. Projections by the IMF for the 2021-2026 period suggest that it is expected to be even lower for the EMDEs (4.5 percent) and for Asia (2.6 percent) – see Figure 2. This is within the range of inflation targets set by many central banks in the EMDEs and the Asian region. Hence, despite current alarmist discourse on the spectre of high inflation, one is unlikely to see a repeat of the 1980s and 1990s. It is reasonable to presume that the medium-term outlook for inflation for EMDEs and the Asian region is moderate. Of course, this regional analysis does not preclude the fact that individual countries in EMDEs and Asia do suffer from double-digit inflation (such as Uzbekistan) and need to resolve it.
What about advanced economies (AEs)? The ‘performance gap’ on the inflation front during 1980-1999 between AEs and EMDEs was huge – 4.7% vs 44.5% as can be seen in Figure 2. This is no longer the case given that a significant degree of convergence has taken place since 2000 between AEs and EMDEs and the Asian region in terms of taming inflation.
Major central banks in the AEs, such as the US Fed, struggled to even reach the inflation target of 2% during the pre-pandemic period. The average inflation rate for AEs as a whole for the 2000-2020 period was 1.7%. The projection for 2021-2026 is that the average inflation rate is expected to be around 2.2% which is in line with inflation targets for many central banks in AEs, such as Australia, Canada and New Zealand.
In sum, whether one considers the EMDEs, the Asian region or the AEs, the prospect of a return to the high inflation era of the 1980s and 1990s appears unlikely. One should also note that a good deal of the current spike in inflation is due to disruptions in global supply chains. Seeking to tame supply-side inflation using monetary policy instruments is not a particularly effective strategy. More importantly, they impose costs in terms of lost output and employment. Central bankers should remember that their collective mandate is – or ought to be – price stability and full employment rather than price stability per se. After all, New Zealand, the trailblazer for single mandate, inflation targeting central banks decided a couple of years ago to renew its commitment to the dual mandate of price stability and full employment. All central bankers should be inspired by this transformation.
Iyanatul (Yan) Islam is an Adjunct Professor at the Griffith Asia Institute and former Branch Chief, International Labour Office, Geneva. The views expressed in this blog are the author’s own and should not be attributed to the ILO.