Ballooning global fossil fuel prices, threats of power shortages in China and Europe
, panic buying of petrol in Britain, semiconductor shortages
affecting carmakers, and scores of container ships stuck outside US ports have dominated headlines in recent weeks.
They all share one underlying driver – a supply chain crisis
that could stoke inflation just as global growth momentum is slowing. While the market’s concern over stagflation may well be exaggerated
, navigating supply chain issues presents challenges for policymakers and investors alike.
Amid the pandemic, a large portion of global economic activity briefly ground to a halt. Disruptions to supply chains were both inevitable and unpredictable.
The unprecedented sharp drop in activity created a so-called base effect. This led to big jumps in many economic indicators that use year-on-year growth rates to compare current levels to depressed prior-year readings. This includes inflation as well as GDP, but this effect has also made this year’s energy price increases
look larger, given how much they plunged in 2020.
The fiscal policy stimulus
unleashed in response to the pandemic found its way disproportionately into goods rather than services as lockdowns and travel bans remained in place.
The surge in demand
for goods, together with a supply chain that could not restart at full speed, has led to rolling supply pinches in everything from timber to freight and shipping. Many of these issues are now well documented and have, for some time, been brushed off as transient.
However, the more recent acceleration in energy prices across the world has left some analysts wondering whether inflation might be stickier than assumed. The rise in energy prices has been partly because of the sharp rebound in economic activity as the pandemic has eased, but other factors are also in play.
First, the supply response from Opec and US shale producers has been notably sluggish. That could be partly because fossil fuel producers are already facing a decline in demand
as the world moves towards renewables and are less willing to invest in new supply. Still, the recent surge in oil prices above US$80 per barrel might yet spur them to finally increase supply.
However, there are many other factors across the world making the situation worse. These range from not enough wind in Europe for renewable energy generation, and low gas storage levels in Russia after last year’s harsh winter, to coal supply issues
in China driven by environmental concerns, and driver shortages
in the UK as a result of Brexit and the pandemic.
In general, energy supply chain disruption can be alarming to investors. It raises memories of the oil-linked recessions of the 1970s
, when oil supply disruptions coincided with high inflation, as well as the fact that a sustained rise in energy prices is effectively a tax on consumers that can hurt both sentiment and activity.
This helps explain why, unlike disruptions in timber and semiconductor supplies, those in fossil fuels have sparked concerns about more persistent inflation
and the possibility of a consequently hawkish policy response.
However, there is a good argument to be made that supply chain issues should fade in the coming quarters, both in energy and other markets. Inflation might be somewhat higher throughout this economic cycle than the last, but the current elevated rate is likely to be the high point – which could result in overreactions by analysts and central bankers.
For now, however, it seems reasonable to expect central banks to be broadly tolerant of inflation. Not only have they said they expect higher inflation rates for a while, such rates are also implicitly necessary for them to reach their policy targets. Moreover, it is questionable whether aggressive policy tightening
would be a wise response to the current problems.
If most of today’s inflation issues are caused by supply-side constraints, many of which are temporary, then further burdening the economy with tighter policy could put at risk the recovery central banks have worked so hard to nurture.
Nevertheless, the monetary policy landscape is shifting. Emergency levels of stimulus no longer seem necessary as economies have recovered. Correspondingly, some major central banks have begun to scale back asset purchases
and will be mostly done with them by late 2022.
Policy rates will then begin to edge higher, but this process should be gradual and still leave interest rates in historically low ranges for some time.
Patrik Schowitz is a global multi-asset strategist at JP Morgan Asset Management