Risk of stagflation moves closer


Fears of a downturn

Concerns about rising inflation and faltering economic growth pervaded financial markets during June and central banks around the world   raised interest rates in a bid to curb inflationary pressures that have been exacerbated by the war in Ukraine. The World Bank  warned that the risk of stagflation – high inflation and low economic growth – had increased, observing: “For many countries, recession will be hard to avoid”.

US rate increase

US Federal Reserve (Fed) policymakers raised the key federal funds rate by 75 basis points  during June. This was the largest single rate increase since 1994 , which took US rates to a range of 1.5% to 1.75%. Further rate increases are widely expected to take place, with the next rise slated for the end of July . Looking further ahead, the Fed  expects rates to rise to 3.4% by the end of this year.

US inflation continues to climb

The rate of consumer price inflation  in the US accelerated to 8.6% in May, posting its highest 12-month increase since December 1981. The Dow Jones Industrial Average Index  fell by 6.7% in June; meanwhile, the S&P 500 Index  fell by 8.4% and entered its 15th bear market  since 1928. During the month, the yield on the benchmark US Treasury Bond  rose above 3.4% to reach its highest level since 2018.

ECB set to tighten

The eurozone is set to experience its first rate increase in over 11 years  during July, following the European Central Bank’s (ECB’s) announcement  that it intends to raise its key interest rate by 25 basis points in a bid to tackle inflation. ECB policymakers  warned: “High inflation is a major challenge for all of us”: the rate of inflation in the eurozone hit 8.1% in May  and is expected to remain “undesirably elevated for some time” . The Dax Index  fell by 11.2% during June.

Japan bucks the trend

While many of the world’s major central banks raised borrowing costs during June, the Bank of Japan  remained committed to its longstanding programme of negative interest rates and bond purchases. Unlike many other countries, Japan’s inflationary backdrop has remained benign: its rate of consumer price inflation  rose to 2.5% year on year during May . The Nikkei 225 Index  declined by 3.3% over June as the yen’s weakness  undermined sentiment towards large Japanese exporters.