Whilst inflationary concerns are mounting around the globe, some economies are faring worse than others. The BRIC countries (Brazil, Russia, India and China) are, not surprisingly, seeing some of the strongest rates of inflation.
Russia and India are both experiencing consumer price inflation of over 8%. In India, as in many other Asian economies, the primary concern is food price inflation, and it is the price of onions making front page headlines.
In the past, the ‘onion factor’ has helped bring down Indian governments of the 1980s and 1990s. The combination of disease and bad weather have ravaged India’s onion crop with the price of onions rising by an eye‐watering 70% so far this month alone. Bhaji lovers around the world beware.
Meanwhile, Brazil’s annual inflation rate is running at 5.9% which remains above its central bank’s target of 4.5%. Having sat on its hands since last July, last week saw the Brazilian central bank respond by raising interest rates to 11.25%. This represents an effective real interest rate of 5.35% ‐ one of the highest real interest rates in the world.
As far as the markets are concerned, the most important BRIC nation is China. Last week all eyes were on its latest economic growth and inflation figures. China’s annual rate of consumer price inflation eased back from November’s 28‐month high of 5.1% to 4.6% last month. However the easing in the headline rate disguised a 0.4% rise on a monthly basis. Furthermore, the fourth quarter GDP figures came in stronger than expected, with the rate of economic growth accelerating to 9.8%. This is fuelling concerns that the Chinese economy is overheating and further interest rate rises are imminent with inflation remaining above the target rate of 3%.
Loose monetary policy
However, China’s monetary policy still remains rather loose with a central bank base rate of just 5.81% ‐ a real effective rate of just 1.2%. Like India, food price inflation remains a concern with prices rising by more than 10% over the year triggering street protests. Outside of food, concern has also focussed on the rise of bank lending. For example, last month’s bank lending was ten times the corresponding figure in 2007. The Chinese authorities have attempted to curb this by raising capital reserve requirements seven times last year.
During the last decade, China, through its cheap manufactured goods, exported deflation around the world. Now, Chinese consumption, and the voracious appetite for commodities of other BRIC nations, is exporting inflation. The price of copper has recently hit a record high and oil has fallen just shy of $100 per barrel. This remains some way off the $147 peak in 2008. However, last week saw US investment guru Jim Rogers make one of the most bullish calls to date as he forecast oil to break the $200 per barrel mark.
The one Asian country that wishes it had an inflation problem is Japan. Japan’s annual inflation rate only just scrapes into positive territory at 0.1%. The United States also does not currently have an inflationary problem and the Federal Reserve is one of the few central banks experiencing below target inflation and as such it is not expected to raise interest rates until 2012.
In the euro zone, there is also significant divergence. Most of the periphery economies have the problem of delivering fiscal austerity within the context of significant inflation. Greece (5.2%), Spain (2.9%) and Portugal (2.4%) all have annual inflation rates above the euro zone average of 2.2% and the European Central Bank (ECB) target of below but close to 2%. Ireland, however, remains the only euro zone economy still in deflation territory (‐0.2% y/y). Of course interest rates for the euro zone will be set in relation to the sum of the parts rather than the needs of individual economies and we anticipate the ECB to begin raising interest rates in Q4 this year. This will be welcomed in the economic power house of Germany but not the struggling periphery.
Inflationary concerns intensify in the UK last week with only the most pessimistic of economists correctly forecasting annual CPI inflation jumping from 3.3% in November to 3.7% in December. With annual inflation
set to hit 4.3% in Q1 2011, more than double the Bank of England’s 2% target, financial markets have moved quickly to almost fully price in a quarter point rate rise by June. We expect the Bank of England will finally raise interest rates off their lowest level since 1694 in Q3. So, much like the price of onion bhajis, the only way for interest rates is ‘up’.