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Business

The world economy is in a gloomy mood

CROSSROADS TOWARD PHILIPPINE ECONOMIC AND SOCIAL PROGRESS - Gerardo P. Sicat - The Philippine Star

The world economy today finds itself in a gloomy, negative situation. Strong headwinds make economic change and growth more difficult as they try to recover from the pandemic.

We undergo a turnover to a new national leadership in difficult times.

Inflation and global market gloom. First, there is gloom in the equity markets. Global markets are often signaled by developments in the US market.

Recent large declines in the Dow Jones and in the S&P 500 indicators have gained the attention of many. The Dow Jones index recently experienced a drop of more than 1,100 points on May 18. A two-day decline led to an index of 31,490.

This is a low point. In comparison, on January 3, at the beginning of the year, the Dow Jones reached a level of 36,799. Viewed from this peak level, the decline amounts to 14.5 percent, enough to make investors pay great attention.

The movement of the S&P 500 index – an index composed of the mix of important companies in the US – has often been labeled as the true indicator of the US economy. During the same period, this index experienced a drop of 20 percent from its recent peak.

A drop of 20 percent or more in the equity markets is considered a psychological shift of expectations to a “bearish market.”

The rise of inflation in recent months is due to a complex of factors. For almost a decade, the world experienced a period of almost zero interest rates. It was the monetary cure, especially in the US to induce economic recovery.

After the reappearance of the inflation problem, the US central bank – the Federal Reserve system – announced a new path toward rising interest rates. The Fed raised interest rates by 50 basis points on May 4. Analysts anticipate that the interest rate will be raised in stages up to 2.75 percent by the end of 2022. This shift in policy includes a commitment to reduce holdings of private bonds as an anti-inflationary measure.

At a time when most countries have been put into a position of high fiscal debt because of the need to undertake more spending during the hard times of the pandemic, the problem now is that highly indebted countries will face rising financing costs to service their debt.

Thus, many countries will face rising costs as they manage their own affairs of economic development.

The Ukraine war. The geopolitical rivalries of the major powers have intensified in two theaters of regional conflict: the war in Ukraine and the tense geopolitical conflict in the South China Sea and the question of Taiwan. (In this discussion, I focus on Ukraine.)

Russia’s decision to invade Ukraine was premised on the success of a massive blitzkrieg operation that would force immediate capitulation of Ukraine’s central government. But the brave resolve of Ukrainians, led by their President Zelensky, to defend their country against overwhelming odds impressed the US and its NATO allies so much that they decided to help Ukraine with strong military weaponry.

With this help, Ukraine succeeded in inflicting heavy casualties on the invading forces, including the destruction also of their heavy weaponry. Russia was forced to retreat to a war of attrition for limited territory in Ukraine’s southern region.

The US strategy of supporting Ukraine with weaponry, but without military manpower was calculated to make Russia’s Ukraine invasion a localized war. That essentially put the issue of expanding the war on the Russian leader’s choice. That was how dangerously close the world got toward a new world war, perhaps a nuclear war.

Unprecedented sanctions against Russia have hampered its financial capacity to successfully mount a localized war. The failure of Russia’s military blitzkrieg has provided abject lessons for its war capacity.

The price spikes we get and their high volatility that we experience with oil and gas prices have been stoked by the Ukraine war. The unprecedented sanctions against Russia’s participation in the global financial system also have their legal effect.

The Ukraine war also has a side-effect on global food security. Since Russia and Ukraine are major exporters of wheat in the world market, a prolonged war threatens global food security, especially for the poorest countries. Together, they control 30 percent of the global trade in wheat and 18 percent of that in corn. They are also major exporters of fertilizer needed by world agriculture.

The damage to the port infrastructure in southern Ukraine is serious. The decline of agriculture due to the war presages a global food security for many countries. The rise of wheat and fertilizer prices adds to the global inflation.

Other sources of supply disruptions. Other sources of price inflation in traded goods may be traced to the trade wars that happened not too long ago. The US government, under the Trump presidency, initiated trade wars to exact trade and economic concessions from countries that had built large trade surpluses against America.

This was done through the use of unilateral tariff increases on targeted imports of China and on steel imports from Western and other steel exporters, including important military allies. These measures naturally led to price hikes in traded goods within the US. (Although President Biden, who beat Trump in 2020 did not reverse the latter’s China tariffs, he rolled back the steel tariffs that were imposed primarily against Western allies.)

The COVID-19 pandemic is even more recent. It accelerated the disruption of the supply chain in the production of traded goods. Globalization led to an era of specialization among countries. The supply chain for inputs was extended over a network of countries.

Since countries encountered different levels of severity in their pandemic experience, an imbalance resulted in a break of the supply chain.

This also led to another consequence. The capacity of logistics to adjust to their normal, efficient paths of deliveries were disrupted. Imbalances in the use of transport and shipping facilities led to over-crowding in some ports and under-utilization in others. Disturbances in deliveries compounded other delays, causing further inflationary pressures.

 

 

For archives of previous Crossroads essays, go to: https://www.philstar.com/authors/1336383/gerardo-p-sicat. Visit this site for more information, feedback and commentary: http://econ.upd.edu.ph/gpsicat/

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