Inflation and interest rates – Money newspaper

• Introduction (Stagflation)

The continuous rise in inflation rates is one of the most important risks surrounding the future of any economy, especially if the rise is accompanied by slower economic growth, which could lead to many negative repercussions for governments, companies and individuals. The wave of inflation that the world is witnessing today threatens the future of the global economy, which coincides with negative expectations for the performance of most economies around the world that may lead to a global recession in 2023 AD and the entry of the global economy into what is known in the economic literature as a state of stagflation, which is a state in which the economy witnesses weak growth and high rates of inflation. High unemployment is accompanied by upward trends also in price levels. The “Global Economic Outlook” report issued by the International Monetary Fund in October 2022, entitled “Addressing the Cost of Living Crisis,” stated that the global economy will witness a slowdown that exceeds what was expected by economists. The world has not seen it for decades. The report predicted that high inflation rates, fueled by geopolitical turmoil and the conditions of the Russian-Ukrainian war, in addition to the repercussions of the Corona pandemic and the Chinese government’s policies to contain the disease, will raise the global cost of living in an unprecedented way. The report predicted that the global economy will enter a period of slowdown through a decline in economic growth rates from 6% in 2021AD to 3.2% in 2022AD and then to 2.7% in 2023AD, which is the weakest growth rate since 2001AD, if we exclude the global financial crisis and the pandemic. corona. The report confirmed that global inflation rates will jump from 4.7% in 2021AD to 8.8% in 2022AD, before falling to 6.5% in 2023AD. On the other hand, the Global Risks Report 2023 issued by the World Economic Forum confirmed the expectations of the International Monetary Fund. economic downturn zone. It may be useful to research the real reasons that led to the unprecedented rise in inflation rates during the year 2022 AD, the way central banks dealt with curbing inflation rates, and the most important economic effects of these monetary policies on the global economy and the local economy.

• Global inflation and interest rates

In general, there are two basic types of inflation:

1. Demand-Pull InflationIt results from an increase in the demand for goods and services at a rate that exceeds the productive capacity of the economy. It usually occurs during the economic growth phase and has limited and somewhat acceptable effects.
2. Cost-Push InflationResulting from the rise in the cost of production factors, usually occurs during the economic slowdown and its effects are more severe.

The Federal Reserve announced an increase in the interest rate by a quarter of a percentage point in March 2022, which is the first increase in nearly two years, after a series of cuts by the US Federal Bank to the interest rates on federal funds until it reached zero in an attempt to mitigate the negative economic effects of the Corona pandemic. The Federal Reserve also made it clear that it will continue to raise interest rates to contain the large increases in inflation rates, which reached their highest levels at nearly 9% on an annual basis, which is the highest in the past forty years, and is fully committed to reducing this percentage to the target rate of about 2%. It is very important to know the real reasons that led to high inflation rates to unprecedented levels and within a short period of time, which can be summarized as follows:

1. Supply chain disruptionGlobal supply chains were severely affected by the conditions of the pandemic, especially during the lockdown period and the precautionary measures taken by most countries of the world, which led to an unprecedented disruption of supply chains and the absorptive capacity of these chains during the short term. However, with the recovery of global economies after the pandemic period and the recovery of levels of demand for goods, which coincided with a state of unpreparedness of supply chains to meet this demand, this led to the imposition of great pressures on supply chains that played an important role in the rise in logistical costs globally, especially transportation costs.
2. Low participation rate in the labor force after the Corona pandemicParticipation rates in the labor market are still below their pre-pandemic levels, especially in developed countries and countries that have implemented strict measures to confront the pandemic, which has caused wage increases due to lack of supply and high demand.
3. Stimulus packages during and after the Corona pandemicThe stimulus packages that governments provided to their people had a major role in raising inflation rates after the Corona pandemic, as the level of aggregate demand for commodities rose to higher than expected levels as a result of high spending rates after the pandemic, which in turn led to the imposition of more inflationary pressures on commodity prices.
4. Russian-Ukrainian warThe Russian-Ukrainian war greatly affected energy and food prices and global supply chains. As the sanctions imposed on the Russian economy led to a decrease in the supply of Russian gas and oil, which affected energy prices globally. The war also led to a significant decline in the supply of basic food commodities such as wheat, due to the share that Russia and Ukraine constitute in a number of basic food commodities such as wheat, and the dependence of large regions of the world on the two countries’ exports of these commodities.

It is worth noting that the wave of inflation increased in pace during the year 2022 AD, including inflation resulting from high levels of “demand” demand as a result of stimulus packages, in addition to inflation resulting from high “cost-push inflation” as a result of other reasons such as disruption of supply chains.

• Central banks’ response to rein in inflation rates

The response of central banks to curbing inflation rates varied, both in terms of intensity and degree in tightening monetary policies and raising interest rates, or in terms of speed in approving and activating these policies. For example, the US Federal Bank was subjected to a lot of criticism by economists and investors as a result of its delay in intervening to contain inflation rates at the beginning and its assertion that the inflation wave is a short-term wave and will pass quickly. Controlling inflation within the acceptable and targeted levels, after the US monetary policy makers realized that the inflation crisis may continue for a longer period than expected. Similar to the US Federal Reserve, a number of other central banks around the world have similarly tightened monetary policies

And raising interest rates, including the European Central Bank, the Bank of Canada and the Bank of England, to curb inflation on the one hand, and to maintain the credibility and effectiveness of the monetary policy tools that these central banks rely on to maintain price stability.

• Inflation and interest rates in the Kingdom

To analyze the expected impact of rising inflation rates and global interest rates on the Kingdom’s economy, it may be useful to shed light on the reality of the Saudi economy during the year 2022 AD and also on the potential channels for the impact of such global hikes on the Saudi economy, taking into account the linkage of monetary policy in the Kingdom with US monetary policy (given To link the exchange rate between the Saudi riyal and the US dollar) into account

The International Monetary Fund’s Article IV consultations for the year 2022 AD with the Kingdom of Saudi Arabia indicated that the Saudi economy achieved strong growth during the year 2021 AD, reaching approximately 4% after the state of stagnation during the Corona pandemic, as a result of the stimulus packages provided by the government and the start of reaping the fruits of implementing some of the Kingdom’s vision programs. 2030. Higher oil prices also contributed to an improvement in the fiscal position and lower unemployment rates. The Fund also expected inflation rates to reach 2.8% in 2022 (the average annual inflation published by the General Authority for Statistics for the year 2022 was 2.5%), which are very acceptable rates in light of the high growth rate, which is the highest among the G20 countries. Looking to the future, the expected growth of the Kingdom’s economy in 2023 is approximately 3.7%, and an inflation rate of 2.2%. In view of the fund’s expectations for growth and inflation rates during the years 2022 and 2023, we can conclude that the Kingdom’s economy was able to avoid the inflationary stagnation that many global economies suffer from, especially the developed ones, during 2022 and 2023. With regard to interest rates in the Kingdom, and by virtue of the Saudi riyal’s peg to the US dollar, the Saudi Central Bank kept pace with the US Federal Reserve and raised local interest rates by raising (the “repo” repurchase agreement and the “reverse repo” agreement) at the same pace as the US Federal Reserve to maintain monetary stability. And financial.

• The expected effects of raising interest rates on the Saudi economy

The expected effects of raising interest rates on the Saudi economy in general depend on several aspects, the most important of which is the motive behind raising interest rates, such as inflation or strong growth. (While the other important aspect for determining the economic impact of raising interest rates is in the nature of the stage of the economic cycle of the Saudi economy at which the interest rate was raised, taking into consideration that the Saudi and American economies are not necessarily going through the same economic stage, whether growth or contraction.

It is good that the interest rates raised by the Saudi Central Bank during the year 2022 AD, which is the year in which the Saudi economy achieved the highest growth rates in the world, outperforming large economies such as India and China, which mitigate the negative effects (growth slowdown) of the relatively high interest rates on the macroeconomic level.

As for the sectors, measuring the expected effects of interest rates may vary greatly according to the type of sector, although it often has negative effects. For example, the banking sector may be one of the largest beneficiaries of raising interest rates due to the high costs of lending. Unlike sectors that rely heavily on borrowing from banks (Zero sum game).

In conclusion, we must praise the efforts made by the government represented by fiscal and monetary policies to reduce the expected effects of inflation rates and interest rates globally on the Saudi economy. One of the internal effects of this crisis is setting a higher ceiling for fuel prices.