Year of the Ox reflections: Inflation's unpleasant surprises of 2021
Last year, AsianInvestor made 10 predictions about how markets would swing in the Year of the Ox. As we now enter the Year of the Tiger, we take a look back at just how accurate some of these predictions were.
Will inflation offer any unpleasant surprises in 2021?
Answer: No
Verdict: Incorrect
Inflation was the big surprise of 2021.
At the beginning of the year, economists forecasted the average US inflation for year-end to be around 2%, but the latest reading in December came in at 7.0% year on year — the highest level since 1982.
Currently, inflation remains high in the US and most of the developed world. It is also elevated in the developing world.
Unprecedented economic disruptions caused by the Covid-19 pandemic, which began in 2020, led to unprecedented financial support to the global economy by monetary and fiscal authorities. This resulted in an unprecedented amount of fiscal stimulus in many countries.
It also meant that 2021 began with a substantial pick-up in economic activity worldwide, thanks mainly to the aforementioned financial stimulus as well as the expedient rollout of vaccines, which enabled a reduction in restrictive measures imposed by governments.
The pandemic caused unusually large and rapid swings in demand, as well as disruptions in the ability to supply goods and services. Central banks adopted the narrative that inflation was being caused by these temporary disruptions in supply chains and would therefore be transitory. However, as the year progressed, global supply chain issues did not improve in any meaningful way, labour shortages began to appear, and energy prices surged — which compelled central banks to adjust their narrative of ‘transitory’ inflation and reevaluate their policies.
Last year also marked a sharp break from what had been an unusually long period of low-to-moderate inflation, which had taken many economists by surprise. In the US, Canada, the UK and the eurozone, consumer prices rose in October 2021 at their fastest pace in three decades. In some emerging markets such as Turkey, Brazil, and Argentina, inflation rates hit double digits according to data from the OECD.
By contrast, in parts of Apac such as China, Japan, and Indonesia, consumer price inflation was relatively subdued, even though many economists do see an uptrend.
In the outlook for 2022, most economists are reporting that they expect inflation to fall from current levels, but also expect it to last longer than previously predicted.
European Central Bank economists have forecasted that supply will gradually catch up with demand, and energy prices will go down in 2022. However, given the pandemic was an unprecedented event in modern times, the ECB predicts the recovery might also be different, as it may take longer to repair the massive disruptions to supply chains, and energy prices may continue to rise due to a green transition.
“We believe inflation is going to fall in 2022, and it’s most likely going to fall a significant amount. The question really is, where will it be when the dust settles?” said Erik Weisman, portfolio manager and chief economist at MFS investments.
“Will it look more like pre-pandemic levels where inflation was running around 2%, or will it look like prior business cycles, when inflation was running closer to 3%? We believe the markets believe it’s going to go to something closer to 2%, although our view is a little higher than that,” he said.