Policymakers in the United States spent much of 2021 insisting that inflation was a “transitory” effect of a rapid recovery. Yet, they start in 2022 scrambling to apply the brakes to rising prices (Callum Jones writes).
A majority of the Federal Reserve’s rate-setters now expect at least three interest rate increases in the coming year. The central bank has not merely started tapering its vast support for the American economy, it has picked up the pace, and its asset-purchase scheme is on course to wind down within months.
While this hawkish tilt is designed to alleviate the risk of the economy overheating, the emergence of yet another variant of Covid-19 has clouded the road ahead. Mounting numbers of coronavirus cases “pose risks to the outlook”, Jerome Powell, the Fed chairman, acknowledged recently.
Should Omicron, the latest variant, undermine the overall recovery, some economists fear that inflation — driven by robust demand for goods in the face of sustained supply and labour shortages — is unlikely to be alleviated by another wave of infections. Nevertheless, the Fed reckons that price growth will cool markedly in the United States in 2022, from 5.3 per cent to 2.6 per cent.
There are caveats, though: the current forecast remains considerably above the central bank’s 2 per cent target, and the Fed was forced to upgrade its forecasts repeatedly during 2021.
Steady momentum in the workforce has been providing some reassurance. By the end of November, employment was about 1.2 million jobs short of where it had stood before the pandemic struck, but it’s on track to reach pre-Covid levels by the spring, has been rising of late at a monthly rate of about 378,000.
Powell will continue to steer the Fed, having been handed another four-year term by the White House. President Biden will be at pains to demonstrate that he has made good on pledges to ensure that the recovery will leave no American behind. November’s mid-term elections will pose the first electoral test of his presidency.
Olaf Scholz, the new German chancellor, maybe the old finance minister, but this is likely to be a year of substantial upheaval for his country’s economy (Oliver Moody writes).
The government will have to pick its way through the consequences of a fourth Covid wave, soaring gas prices and stubbornly high inflation at the same time as galvanising public investment, hitting highly ambitious climate targets, rewriting the European Union’s fiscal rules and recasting its relationship with China, its largest trade partner.
Scholz aims to generate 80 per cent of Germany’s electricity from renewable sources by 2030, up from 45 per cent last year, while simultaneously pulling out coal and nuclear. In practice, this means that solar and offshore wind capacity will have to be almost quadrupled over the next eight years, alongside a massive grid expansion, all measures that could cause political ructions in a year of four closely contested state elections.
The chancellor was not exaggerating when he said on the campaign trail in September that this shift would require the most significant “industrial modernisation” that the country had been through in a century. Paying for it will not be easy, particularly since Scholz has committed to reapplying the “debt brake” — a legal straitjacket limiting the deficit to 0.35 per cent of GDP — in 2023.
One answer is to use state-owned banks, tax incentives and intelligent regulation to leverage private investment, but this will go only so far. The state has already quietly reassigned €50 billion of pandemic funding for capital expenditure. So it may have to borrow a good deal more than that, taking Scholz into constitutionally tricky territory.
That, in turn, raises the European question. EU rules on public debt, known as the Stability and Growth Pact, are up for renegotiation. The French and their allies want more fiscal wiggle room. It is hard to overstate the importance of Germany’s position, which so far has remained deliberately woolly.
Looming over it all is the spectre of inflation, the primal anxiety of German politics. This month it is expected to exceed 6 per cent, the highest level in three decades. The Bundesbank, Germany’s central bank, has doubled its inflation forecast for 2022 to 3.6 per cent.
So far, the European Central Bank has declined to raise its rate, insisting that the underlying pressures are transitory. However, after a winter of record energy costs and strained household finances, it is unlikely that this argument will wash with many German voters.
Two figures will play central roles in plotting a course through these treacherous waters alongside Scholz. One is Christian Lindner, the new finance minister, a classic German economic liberal who believes in sound money, fiscal restraint and the power of free enterprise but may find that he has to rein in some of these principles.
The identity of the other figure has only recently been revealed. Jens Weidmann, the hawkish president of the Bundesbank, is retiring after a decade in office. Nominated to succeed him is Joachim Nagel, an insider steeped in the central bank’s traditional suspicion of loose ECB policy. With Lindner and Nagel at the helm, 2022 may well be a year of absorbing and unpredictable conflict over Europe’s economic future.
Given that it is widely seen as the engine of the global economy, it is fair to say that no growth story will be followed more closely worldwide over the next year than China’s (Didi Tang writes). Economic growth, however, is expected to slow to near the pre-pandemic level of about 5 per cent in 2022, down from this year’s 8 per cent, as the rebound from the pandemic weakens.
Indeed, according to Li Xuesong, a researcher at the Chinese Academy of Social Sciences: “The potential growth rate . . . is about 5.5 per cent, but with factors such as the fluctuations in the pandemic [and] rising costs of major commodities, the real growth is likely to be below the potential growth. Therefore, if we set the goal as above 5 per cent, it will be safe, and it will allow us to concentrate on pushing for reforms and innovations and high-quality development.”
Problems such as falling factory activity, persistently soft consumption and a slowing property sector have dimmed China’s immediate economic outlook. As a result, the growth of gross domestic product for the third quarter slowed to 4.9 per cent, down from 7.9 per cent in the second quarter and 18.3 per cent in the first three months, as power shortages and supply bottlenecks, hurt factories and sporadic Covid-19 clusters dampened consumption.
“The resurgences of the pandemic and the restraints on the supply side have weakened the recovery after the third quarter,” Li said of the global challenges that China faces. “Structural imbalances have caused secondary problems.”
At home, disposable income has grown slower than the national economy, the recovery in consumption is weak, and rising commodities prices have increased production costs for downstream businesses, Li said.
“A few major property developers have exposed risks because of blind expansion and mismanagement,” he added, referring to the vast bond defaults by China Evergrande Group and others. “The impact needs to be observed.” Given the fear that Evergrande’s debts could affect markets far beyond Chinese finance and construction, regulators have sent a working group to the company to minimise any shock that its defaults may cause.
Wang Jun, a chief economist at Zhongyuan Bank, expects the downward pressure to persist for two to three quarters. “We can see policy easing has been very restrained,” he said. “Large-scale policy easing in the fourth quarter is very unlikely.”
When Fumio Kishida, Japan’s prime minister, came to office in October, he promised nothing less than a “new form of capitalism”, a virtuous cycle of growth that would double wages and reduce Japan’s growing levels of inequality (Richard Lloyd-Parry writes).
Pro-business, right-wing conservatives in the ruling Liberal Democratic Party quickly forced him to pull back from his most radical proposals, such as an increase in capital gains tax. And, rather than creating a new kind of capitalism, Kishida will be preoccupied mainly in 2022 by the job of preserving the existing one.
Japan has been relatively unscathed by Covid-19, which has killed far fewer people as a proportion of the population than in other G7 countries.
But the methods used to achieve this, including strictly closed borders and the discouragement of domestic travel and consumption, have damaged the economy. It has contracted in five of the past eight quarters, and growth next year is expected to be the weakest among the big industrialised nations.
For all his radical talk, Kishida thus far has depended on the LDP’s familiar economic tools — massive economic stimulus packages and pleas to companies to increase wages. Last month, the Diet, the Japanese legislature, voted through 55.7 trillion yen (£379 billion) in spending, adding to more than Y1,200 trillion yen of debt. But the effects of massive expenditures are still failing to impart the necessary sense of security and lift that would convince bosses to increase salaries and set off the longed-for cycle of consumption, manageable inflation and growth.
The international situation is not helping. On the contrary, fears of conflict over Taiwan and the prospect of a potential slowdown in China, which would hurt Japan’s exports, are conspiring to encourage caution and thrift.
With a general election due by May and trailing a resurgent Labor Party in the polls, Scott Morrison, Australia’s centre-right prime minister, is set on convincing voters that they’ve entered a robust, post-lockdown recovery (Bernard Lagan writes). But, for now, the numbers appear to be in his favour — if significant deficits are ignored.
The all-important mid-financial year economic and fiscal outlook, released in mid-December, allowed the government to retreat into Christmas with a $100 billion improvement in the budget compared with the May forecast. On top of that, the department of statistics has reported that more than 200,000 new jobs were created in November, an outcome that was far above expectations.
Among the four big banks, the Commonwealth predicts that a robust economic expansion next year will be accompanied by an acceleration in inflation and growth in wages.
However, the government’s windfall revenue gains will not show much improvement to the government’s record-breaking $340 billion deficit forecast in the budget in May. The $106 billion in extra revenue, mostly from taxes that the government now expects over the next three years, is almost all spoken for in spending blowouts and yet-to-be-announced election promises.
Australia is living well beyond its means; the government hopes that voters won’t notice come to the election.
The Australian economy shrank by 1.9 per cent in the third quarter as the country grappled with the Delta variant coronavirus outbreak — a result that surprised most forecasters, who had tipped a 2.5 per cent to 3 per cent contraction. Instead, the economy expanded at an annual rate at a 3.9 per cent clip.
Most economists now agree that the Australian economy had rebounded much more swiftly than the nation’s Treasury assumed in its May forecasts — even before half of Australia’s 25 million people were locked down after the arrival of Delta in June.
The reasons for optimism comprise Australia’s firm response to the pandemic — which included the world’s longest cumulative lockdowns in Melbourne — and a surge in full vaccinations, reaching 94 per cent in Sydney and New South Wales, the most populous state.
In Chris Richardson and Stephen Smith, economists at Deloitte Access Economics, the international evidence is similar. When nations get sufficiently ahead of Covid-19 for their economies to open up, their tax revenues rise fast.
Again, Australia’s export receipts have been saved by China’s demand for iron ore — the nation’s single biggest export.
The great uncertainty for Australia remains its fraught relationship with Beijing over security and human rights issues. That has yet to produce a severe economic impact, but the potential is growing.
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