Sharply declining real disposable personal incomes and rising credit costs are driving the trans-Atlantic community – an estimated 42% of the global GDP – into a growth recession.
Decades of an excessively fast credit creation and the recent flareup of energy and food prices have led to an accelerating inflation. The raging war in Europe and growing hostilities in east Asia are creating supply shortages and breaking up critical supply chains.
The gravity of security problems facing the American and European economies make totally irrelevant the current discussion of their inflation difficulties.
The reason for that is simple enough: The U.S. and E.U. monetary authorities are dealing with a stream of powerful and uncontrollable external price shocks to their economies.
What policy options do they have?
They can either absorb -- i.e., validate – those price shocks to temporarily attenuate the damage to jobs and incomes, or they can pro-cyclically keep raising interest rates to fight inflation, disregarding increasing unemployment, poverty and the countries’ declining (physical) capital stocks.
External price shocks amplify internal market imbalances
Predictably, to varying degrees Americans and Europeans have been following the first option. But that is only postponing tough measures to avoid clashes with political contingencies (e.g., election agenda(s)) until the imperative of strong medicine becomes painfully obvious.
That is very different from the financial market chatter in the U.S. Inflation, they say, is slowing and the Fed will commit a policy overkill with further interest rate hikes.
U.S. inflation slowing down? Yes, gasoline and fuel oil prices fell last month, but prices for fuel oil, energy services and food were still climbing at annual rates of 41.5%, 15.6% and 12%, respectively.
What is left out of that discussion are the “second-round” effects of soaring energy and food prices over the last twelve months. Those rising prices (costs) have been incorporated into the entire supply chain of products and services. Inflation, therefore, will continue to accelerate in areas of supply shortages and in markets sheltered from vigorous competition.
Labor markets are the most important segment of U.S. supply shortages. As a result, unit labor costs – the floor to future inflation rates -- are now rising at an annual rate of 6.4%.
That is a serious structural problem in an economy where 100 million people remain out of the labor markets – huge cohorts of unskilled Americans who are virtually unemployable.
The U.S. labor market last December also showed 3.9 million involuntary part-time workers because they could not find a full-time job. Additional 5.2 million people dropped out of the labor force because they, too, could not find work.
Clearly, to address skilled labor shortages the U.S. needs more vocational training, and larger investments in education and science.
The E.U.’s blurred vision
The E.U.’s situation is quite different since the European Central Bank (ECB) decided to validate the inflation impact of rising energy and food prices. The ECB, therefore, allowed inflation to accelerate to the 9% to 10% range, because rising credit costs would bankrupt some of its hugely indebted member countries. And that, of course, would unravel the trade bloc and its monetary union.
That’s why the E.U. would need to end the NATO-Russia war, eliminate trade sanctions and open the spigots of Russian oil and gas supplies. Hungary apparently wants to lead the way out of that nightmare. Budapest’s last week referendum showed that 98% of respondents were opposed to trade sanctions and to the boycott of Russian oil and gas supplies.
The E.U. sanctions and boycott will not be lifted anytime soon, but German chemical and automotive industries, which built their business on cheap and plentiful energy supplies, are literally moving to China. The latest move was announced by Bosch with its $1 billion investment in the Shanghai area to produce components for “electromobility and automated driving.”
Not to be outdone, France is catching up. Last Monday (January 16), the diplomatic counsellor to the French president talked to China’s top diplomat and Politburo member, pledging to cooperate on innovation and technology. And, in what sounded like a broadside at Washington, he reportedly stated that France opposed “the Cold War mentality and bloc politics,” offering also an “EU-China dialogue.” A very sweet music to China’s ears.
At the same time, the U.S. Treasury Secretary Janet Yellen talked with the Chinese Vice Premier Liu He in Switzerland about bilateral economic and trade problems.
Global supply chains of energy, food and industrial products have been compromised to such an extent that the U.S. and E.U. monetary policies cannot restore price stability without creating a protracted growth recession. Peace and free trade would help to avoid that and to uphold the rules-based international order.