Resurgent inflation appears firmly bedded in for now and rising energy and food prices have impacted the cost of living in both developed and emerging economies. What is this doing to trade? How are governments responding?
“The start of the story is a huge influx of fiscal stimulus at the same time you had maximum monetary policy,” comments Deutsche Bank Research’s Brett Ryan. He then fast-forwards to the current tight labour market where the gap between job openings and hires in the US has widened to more than one million.
Independent trade economist Dr Rebecca Harding adds that this scenario, coupled with government spending and very high energy price inflation triggered by the onset of the Russia/Ukraine conflict, has had a huge effect on trade – global values rose 51% between February and March 2022.
Where are these trends leading us? Join our economics experts here in the studio today to find out.
- Dr Rebecca Harding, Independent Economist and CEO of Coriolis Technologies
- Brett Ryan, Senior Economist, United States, Deutsche Bank Research
- Katharine Morton, Head of Trade, Treasury and Risk, TXF Media Ltd
- Clarissa Dann, Editorial Director, Deutsche Bank AG
Transcript of interview:
Clarissa Dann: I’m Clarissa Dann, and you’re watching Trade Finance TV.
Please welcome Brett Ryan via the video link. Dr Rebecca Harding and my co-presenter TXF’s Katharine Morton. Inflation looks firmly positioned for now doesn’t it? Rising energy and food prices have impacted the cost of living in both developed and emerging economies. We are going to discuss how inflation is hurting trade and how governments are responding.
Brett Ryan: In Q4 of 2019, we had an unemployment rate around where it is now three and a half to 3.8%. And yet we had inflation, core inflation that was right around 2%. You ask yourself, well, what’s the difference? And it’s not just one story. Several stories. And all of them have to do with the pandemic. So the start of the story is with a huge influx of fiscal stimulus, at the same time that you had maximum monetary policy. The two stimulus checks in the United States in early 2021, for example, those are trillions of dollars given to consumers. One check in January, one check in March that accounted for all of the good spending for 2021. And it brought huge supply chain issues that caused inflation, shipping costs that caused inflation.
However, fast forward to now, and the key difference is the labor market. The labor market in the U.S. is tat its tightest as it’s ever been. We measure that by the vacancy yield, which is job openings to hires. And so the gap between job openings, which are far exceeding hires at the moment, is close to a million. And why is the labor market so tight? One, we’ve had excess retirements relative to the pre-COVID trend. So there’s about 1 million people more than the pre-COVID trend that have retired. And two, visa restrictions that are related to COVID and even pre-COVID have dented the foreign labor supply by about 2 million. At the same time, when you’re reopening an entire economy all at once, everybody’s scrambling for that same person. Every restaurant on the block trying to hire the same kitchen staff, the same waitstaff, the same bartenders. And so that builds up prices for labor. So while the supply chain issues have started to recede, services prices are picking up a lot. And that’s the main problem for central banks. And that’s why we’re seeing these outsize interest rate moves.
Clarissa Dann: Rebecca, are we seeing this pattern playing out elsewhere in developed economies?
Rebecca Harding: To some extent, yes. But I think there’s a big elephant in the room, particularly in Europe at the moment, which is energy prices. You can’t get away from the stranglehold over gas markets and oil markets at the moment and also the transition to other sources of energy in the wake of the Russia-Ukraine conflict. What we’re seeing at the moment is very high energy price inflation as well in some places is practically doubled in the last year. So inflation is partly to do with tight labor markets, it is partly to do with government expenditure. There is a legacy undoubtedly of the pandemic. But what we’re also seeing is this impact on energy prices that is a direct result of what’s happened during the course of this year between Russia and Ukraine.
Katharine Morton: What’s the inflation doing to trade values and why is this important for trade?
Rebecca Harding: Between February and March, global trade values rose 51% just in one month. That tells you exactly what was happening and the big shock that happened to global trade values at the onset of the Russia-Ukraine crisis. As Brett says, some of that has come from supply chain shortages as a result of the COVID pandemic, but also as a result of semiconductor shortages and all the things that we’ve been seeing going on for a number of years. But that immediate impact hit electronics, it hit energy prices, it hit foods as well, and rare metals prices. So we’ve seen this huge shock.
Now, what’s interesting is alongside all of that, we haven’t seen the volumes of trade go up at the same rate. So through the whole of the COVID pandemic volumes have actually ticked up only very slightly, but the values of trade have gone up through the roof, and that’s why we’re seeing inflation creeping through the trade system. I think what’s happening, particularly within the trade finance function, is that we’re seeing all sorts of restrictions coming in, greater degree of uncertainty that will have a longer term impact on the way in which trade unravels in the next year. It is bound to and meanwhile will see prices rise.
Clarissa Dann: Brett, how does 2023 look at the moment?
Brett Ryan: From our perspective, 2023 is going to be a difficult one. We expect the Fed to hike by 75 basis points at each of its next two meetings. So that takes us to 4.63% by the end of this year. Then we expect the Fed to do another 25 basis point hike at the beginning of next year, taking us to 4.8%. It’s possible that they even do more and get north of 5%. That, in our view, will trigger a recession in the back half of next year. Unfortunately, that’s sort of what it takes to loosen the labor market and to bring inflation under control. And the Fed has admitted as much in its forecast. They’re still sticking to the soft landing story, but they are increasingly admitting that that is a low probability. Judging from our various recession and curve indicators, ou know, the probability for a recession, in our view, is about 50% at this point.
Rebecca Harding: If I go back to economics 1 to 1, prices tend to be sticky downwards. And I think we’re going to see energy prices really struggle to come down on a permanent basis for the foreseeable future. I think the reason was very simple. Even if you’ve got status in the Russia Ukraine crisis, you are actually also seeing a transition to net zero and you’re also seeing a transition towards different energy sources within Europe. That’s going to keep the pressure on energy prices high. You’ve got pressure on food prices and that has an impact on the way in which consumers are seeing their real incomes evaporate. That’s where the probability of recession actually hits us on a day to day basis. And that’s where I think the real risks are.
Katharine Morton: We’re seeing at TXF EPC contractors having to tie down contractor contracts, and that’s really difficult for exporters to actually price these things in. Is it completely baked in? And do you think the damage to trade is recoverable?
Rebecca Harding: I think damage to trade is recoverable. I think trade always recovers. I mean, you know, we need stuff and it has to go around the world somehow or the other because we’re all dependent on other economies. However, I think we’re going to see some very difficult times in terms of pricing for contracts, in terms of the security that actually not just larger exporters have, but the smaller businesses on the ground. And we’re certainly seeing that from our exports numbers and the revenues we’re seeing quite a significant drop in revenues. Exporters are getting even though inflation is going up. So there are big risks on the horizon and that’s beyond the remit of monetary policy, unfortunately.
Clarissa Dann: Not something very good then. As Paul McCartney once sang in Band on the Run, will we ever get out of here?
Brett Ryan: We will eventually. You have a situation where there are imbalances in the economy, and one of those imbalances is an artifact from the pandemic. And that’s simply the fact that you have goods spending in the US that is well above the pre-COVID trend. Everything that you consume, about 70% of it is services. 30% of it would be goods. But that mix shifted during the pandemic when we couldn’t travel and eat out at restaurants. To unwind that shift takes time, and that period is usually a painful one, especially when it comes to raising interest rates and the Fed’s tamping down demand. And that’s going to cause unemployment to rise.
And we’re already seeing wild swings in the US import and export numbers. I mean, in the first half of the year the US had negative GDP growth simply because we had a surge in imports. Retailers have too much inventory at the moment. That inventory effect means that you’re going to see imports plunge. They were down 9% annualized last quarter. So we have a situation where even wild swings in trade because of the supply chain disruptions and now you have slowing demand at the same time because the Fed’s raising interest rates.
Rebecca Harding: We are also going as a world through a major structural change here. The basis of the global economy is shifting. It’s been shifting for a number of years. The COVID pandemic made that very, very clear that we’re actually moving into a more digital world, a more service based world. This is causing some of this sort of economic shocks that we’re seeing. Alongside that we’ve got geopolitical turbulence, uncertainty, a shift to zero carbon. We have a lot of inflationary pressures that aren’t coming from within the financial system at the moment. So this is likely to take some time to settle down. We are in a process of transition and there’s a lot of uncertainty in the markets and our domestic lives at the moment and that has an economic effect.
Clarissa Dann: I would like to thank Rebecca, Brett and Katharine for taking the time to be on the show today. And of course, to all of you for watching. For all of episodes, please visit TRADEFINANCETV.NET. We’ll see you again soon.