Despite recent jump in bond yields, inflation fears overblown
⯀ Concerns are growing among investors worldwide that inflation may rapidly rise, prompting a sustained increase in policy rates. Fears of inflation followed the announcement of US President Joe Biden’s $1.9 trillion stimulus plan. Many economists pointed out the combined effect from large fiscal and monetary stimulus coupled with mass vaccination will quickly eliminate the output gap this year as economies reopen and people have excess cash on hand to spend. Olivier Blanchard even said “this would not be overheating; it would be starting a fire”.
⯀ Consequently, bond yields rose in many countries, reflecting expectations that interest rates will be lifted to tame inflation. As seen in Chart 1, the US 10-year treasury yield rose to 1.52% on Feb 25 for the first time in over a year.
⯀ Nonetheless, central bankers worldwide appeared not too worried about inflation. On March 4, Fed chairman Jerome Powell stated in an interview the Federal Reserve is still far from reaching its goal of maximum employment and inflation averaging 2.0%.
⯀ Similarly, we believe the global economy will not be overheating in the near term. This is because an overheating economy usually comes with signs that activities are recovering at a rapid pace, yet many developments point to a slow recovery.
⯀ Despite some signs of recovery among industries as countries gradually lift restrictions, sectors such as airlines and hospitality still remain damaged by the pandemic. Brussels Airlines saw the number of its passengers and revenue fall by more than 70% in 2020, and still expects 2021 to remain a rough year for the business. The promise of a V-shaped recovery is far from a reality in these sectors.
⯀ Moreover, although manufacturing activities around the world are recovering, most are still in contractionary territory, as seen in Chart 2. Furthermore, unemployment rates in many nations remain above their pre-pandemic levels. The published numbers are understated by furlough programmes introduced by governments worldwide. In the UK, for example, the government offers to pay up to 80% of an employee’s salary until September 2021. Once those schemes expire, the number of jobless individuals will rise rapidly.
⯀ Chart 3 shows the 10-year breakeven inflation rate is still close to the Fed’s target inflation rate of around 2.0%. Over the longer term, several trends will also hamper rising prices. One of these is income inequality, which has been growing. The rich tend to save more than the poor, which should slow down the growth of aggregate demand and consumption. In addition, globalisation and automation will lower wage raises for workers, while an ageing population in many developed economies all stand as obstacles to global output growth going forward.
⯀ Similarly for Thailand, a rise in inflation is not expected despite higher bond yields. The country has not conducted any quantitative easing and its GDP is still largely below its pre-Covid levels. Thailand’s purchasing manager index is still below the threshold of 50, standing at 47.2 in February. This implies an economic recovery will still take some time.
⯀ Thailand’s macroeconomic fundamentals remain relatively sound. Public debt remains below the regulatory ceiling of 60% of GDP. These figures will lower the chance of higher inflation, driven by increased borrowing and import costs. In addition, the Thai government is still rolling out fiscal stimulus measures, such as Rao Chana and Rao Ruk Gun, to support around 40 million Thais. As such, the risk of the economy overheating is very low at this point in time.