If inflation takes hold, interest rates would go up in the US, the dollar would strengthen, some funds would flow out of stocks into bonds, and markets could fall around the world, including in India — so goes the thinking. These fears are probably overdone
Will inflation turn off the tap of easy money? That is the raging debate all over the world, particularly after the US Fed hinted that it could raise rates in 2023 and expected inflation to stay above 2%, its target, in 2022 and 2023. That is the debate in India, too, after the latest inflation number for May went above 6%, the upper bound for RBI’s inflation’s target. If inflation takes hold, interest rates would go up in the US, the dollar would strengthen, some funds would flow out of stocks into bonds, and markets could fall around the world, including in India — so goes the thinking. These fears are probably overdone.
There are reasons to believe that the current spurt in inflation is transitory. For one, fuel prices are a major contributor to inflation. These can reverse easily. Oil producers’ cartel Opec could take fright at the possibility ofhigh energycosts choking off economic recovery and crimping the resurgent demand for oil, and raise output. Iran could be brought back to the party by reviving the Iran nuclear deal, negotiations for which are already underway. Any increase in interest rates would cut off some of the easy funding for speculative positions on commodities, forcing a sell-off. The Chinese are dampening commodity prices by releasing State reserves and wagging a stern finger at domestic players in metals and minerals. A stronger dollar itself lowers commodity prices, which are mostly traded in dollar terms. Steel and aluminium prices in the US are elevated thanks to protectionist tariffs imposed by the Donald Trump administration. Joe Biden could lift these and cool the prices of these metals. Then, there are problems that arise from pandemic-induced supply bottlenecks. Many workers in the US are stuck at home wherever schools stay shut. Ketchup production is enough, but of the bottled variety, even as home deliveries call for small sachets of the stuff.
Such problems will disappear, once vaccination spreads and normalcy returns. Once inflation cools in the US, so would the worry over higher rates.