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SCMP Series
What will the global economy look like in 2023?
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2
Expect a bumpy 2023 as central banks face high inflation and low growth
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6
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US Fed chairman Jerome Powell speaks at the Brookings Institution in Washington, DC on November 30. Investors are concerned that the central bank’s resolve to keep raising rates could tip the economy into a recession. Photo: Bloomberg
Opinion
Macroscope
by Tai Hui
Macroscope
by Tai Hui

Bumpy 2023 for markets as central banks face high inflation and low growth

  • Risk of policy error is rising as policymakers work to cool inflation without putting out demand, especially as growth slows in the US and Europe
  • Inflation in Asia is less of a challenge but Japan’s situation is precarious and policymakers must be vigilant
Tai Hui
Tai Hui
Why you can trust SCMP

Driving in a straight line is relatively easy, but going around a corner requires greater skill. For central bankers, 2022 would seem like a straight road, given what could come in 2023. The risk of policy error is rising.

2022 was a year of strong growth and high inflation for the United States and Europe. The tailwind of recovery from economic reopening and fiscal stimulus, especially in the US, prompted a robust recovery in the job market and demand.

Meanwhile, the Russia-Ukraine conflict caused a spike in energy and food prices globally. This combination of inflation in both demand and supply led to the sharpest price increases in over 40 years.

To handle this, the required policy from central banks in the developed world was straightforward. They could raise interest rates to cool demand and curb inflation pressure. The US Federal Reserve, European Central Bank and others in both developed and emerging markets executed their policies as needed. China and Japan were exceptions, given China’s economic challenges from the pandemic, and Japan’s sluggish consumption recovery.
As 2023 approaches, the economic backdrop is becoming more complicated and this could be a real test for central bank officials’ decision-making and their ability to communicate with the market.

First, inflation is coming down. The recent decline in food and energy prices, especially based against the highs of 2022, suggest the impact of these items on headline inflation should be much weaker, even making a negative contribution. In the US, the price momentum for other items is also slowing down. In the inflation report for November, prices for core items such as cars, healthcare and electric appliances actually fell.

But it remains unclear how quickly prices will drop towards the Fed’s 2 per cent inflation target. The Fed’s rate-setting committee sees inflation falling to 3.1 per cent in the fourth quarter of next year, then to 2.5 per cent in the fourth quarter of 2024. These levels of above-target inflation may require the central bank to keep rates higher for longer.

Inflation in China and the rest of Asia is much less of a challenge for now. This is partly because these economies are 12-18 months behind the West in reopening their economies after the pandemic. Their governments have spent less aggressively to prop up their economies.

Still, reopening began in Southeast Asia earlier this year and is likely to move into full swing for the rest of the region in the new year. Asian policymakers will need to be vigilant about inflation pressure rising.

Second, in contrast to the stubbornly high inflation rates in developed markets, their growth momentum is slowing. The delayed effect from tightening monetary policy is emerging. After all, it is not possible to bring inflation down without cooling demand.

What is unknown is how far the economy will slow down after the past year’s aggressive increases in interest rates. In the US, corporate spending and the housing market are already experiencing some contraction, and they have been responsible for 11 out of 12 recessions since World War II.

Britain and Europe are probably in recession already, despite their success in stocking up on natural gas for the winter months. The challenge for central bankers will be to cool demand enough to bring inflation down, but not create too much pain for households and businesses.

For China, the bias is to keep monetary policy loose, given weak growth and the need to help economic recovery once reopening is fully under way.

01:59

Japanese consumers snap up used iPhones as plunging yen puts high-end gadgets out of reach

Japanese consumers snap up used iPhones as plunging yen puts high-end gadgets out of reach
Japan is perhaps in the most precarious situation. Its inflation is at a multi-decade high, though nowhere near as dramatic as the rates seen in the US and Europe. Core inflation grew by 3.7 per cent year on year last month, vs 6 per cent in the US and 6.6 per cent in the euro zone. This has persuaded the Bank of Japan to maintain its ultra-loose monetary policy.
Yet market pressure on Japanese government bonds and a weaker yen meant the central bank needed to make some technical adjustments to reduce market distortions, which it did on December 20 by widening the permitted trading range for 10-year government bonds from +/-0.25 percentage points to +/-0.5 percentage points.

Instead of going full speed with policy tightening to fight inflation, central bankers will need to be more skilled in balancing between prices and growth. The risk of errors could add to market volatility in the new year.

Tai Hui is chief market strategist for the Asia-Pacific at JP Morgan Asset Management

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