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Inflation is now global, but the traps are local

When it comes to inflation accelerating around the world, don’t count on a swift response from the two most important economies. The US and China are trapped by their own policy choices and domestic priorities. Neither has much appetite for an assault on price increases. Germany’s calls for a clampdown are too late.

For anyone still wedded to the idea that elevated inflation is a short-term phenomenon, a welcome respite from years of too-low readings, the latest numbers are sobering. Producer prices in China jumped the most in 26 years and consumer inflation picked up, Beijing said Wednesday. Hours later, the US Department of Labor reported that consumer prices climbed at the fastest rate since 1990, outpacing economists’ expectations. Germany’s council of economic advisers demanded that the European Central Bank explain how it will rein in monetary policy. Inflation in the continent’s pivotal nation will be above the ECB’s target this year and next, the group projected.

Most central banks know how to deal with this, right? They simply raise interest rates. Even critics of prolonged easy money say that when it comes down to it, officials have a tried and true formula. Central banks dare not chance truly runaway levels of inflation and risk a return to the bad old days of the 1970s, at least in the US and Europe. Or, in China’s case, squander a big part of the prosperity and economic stability engineered by Deng Xiaoping’s opening of the economy. For all the talk about cold war between Washington and Beijing, China’s inflation experience has largely tracked the West’s, according to a Reserve Bank of Australia paper published on the eve of the pandemic.

The current hand-wringing isn’t happening in a vacuum, however. China is worried about growth, which is already slacker than the fourth quarter of 2019, before COVID-19 crashed over the world. What began in 2021 as a record-breaking recovery is at risk of fizzling out. Bank of America Corp. recently cut its estimate of China’s expansion next year to 4% from 5.3%. The country will likely ease policy despite escalating inflation, rather than respond to it. Further cuts in the reserve requirements for lenders are in the cards. Premier Li Keqiang has warned of downside pressure on the economy.

For its part, the Federal Reserve will find it tough to accelerate tightening. Chair Jerome Powell has emphasized that quantitative easing should be finished before considering hikes in the benchmark rate. The tapering of QE has only just been announced and is scheduled to wrap up mid-2022. That makes a meaningful withdrawal of stimulus, as opposed to slowing the pace of easing, unlikely before the third quarter. Sure, the Fed can always hasten the taper, but the institution has bent over backwards to avoid a tantrum like the market gyrations of 2013. If it’s fast-tracked, the Fed probably fears, investors will panic that hikes are in the offing or that it sees a bigger inflation problem than has been let on. This is also an unfortunate time to have questions linger about who will helm the Fed for the next four years.

ECB President Christine Lagarde is unlikely to find Germany’s broadside helpful. Since the euro’s inception, ECB bosses have grown used to German officials warning about the sins of loose money. In its early days, the ECB was heavily influenced by this view — the bank was located in Frankfurt and its first chief economist, Otmar Issing, was an alum of the legendarily tight-fisted Bundesbank. But hard money views have lost ground over the years. Dovishness now reigns in the euro area. Germany lost the battle, but remains averse to higher prices and is no less inclined to be noisy about it. The ECB ought to worry, at some level, about an erosion of political support in Europe’s economic powerhouse.

China is fond of tweaking Western central banks by arguing that QE and super-loose settings do more harm than good. But Bundesbank-style rhetoric is ill-suited to the PBOC and needs calling out. If China’s central bank was truly a foe of inflation, it would be tightening, not contemplating easing.

The market for monetary nostalgia is on a bull run. Inflation is globalized, but don’t look for a Plaza Accord-type global response echoing the 1985 pact inked in a swank New York hotel that re-aligned the trajectories of major currencies. Domestic conditions aren’t sufficiently sympathetic.

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