The global economy is going through difficult times, amid fears of rising prices and possibly an upcoming global recession. Fears of the Omicron variant of Covid-19 are also raising concerns for the global economy. It is, according to experts, a “perfect storm” of a mix of supply shortages, high energy prices, high food prices, inflation, supply-chain crises, semiconductor shortages, and fears of a possible global recession.
Simply put, it all started with the soaring global demand for commodities, which came with the global economic recovery as the world started to recover from, and/or adapt to, the Covid-19 pandemic.
Amid the global economic recovery and the easing of lockdown procedures, the global demand for commodities increased by too much, too fast. Global output and supply chains were unable to keep up with the rapidly rising demand, which led to an increase in the prices of several strategic commodities.
At the same time, global output declined because of rapidly rising energy prices resulting, ironically, from the global post-Covid economic recovery. These led to energy shortages and electricity cutoffs in China, leading the world’s largest manufacturer to reduce manufacturing output, which in turn led to declining global economic activity.
Global output has also declined because of a global shortage of semiconductors, a vital component of products such as cars, laptops, smart phones and other devices and appliances. “Higher demand and restricted supply equals inflation: there’s no way out of it. You put all these things together, and it is a perfect storm” said Flavio Romero Macau, a supply chain expert at Edith Cowan University in Australia.
It is not just the inflation that is the problem. This combination of high prices (inflation) and declining economic activity is what economists call “stagflation”. Mohamed El-Erian, an adviser to multinational insurance company Allianz and president of Queen’s College, Cambridge, in the UK, wrote in the Financial Times on 13 September that the surprise decline in factory output in China means that the global economy could fall while prices are still rising, which puts the world at risk of a “stagflationary wind through the global economy,” as he puts it.
In October 2021, the International Monetary Fund (IMF) released its World Economic Outlook (WEO) report. Its title reflected fears currently on the minds of people around the world: “Recovery During a Pandemic: Health Concerns, Supply Disruptions, and Price Pressures.”
On the global inflation currently going through the global market, the WEO said that the rising global inflation reflected “pandemic-related supply-demand mismatches and higher commodity prices compared to their low base from .” This inflation has been reflected in high food prices, high energy prices, and a general decline in supplies worldwide.
HIGHER FOOD PRICES
Rapidly rising demand for food in the post-Covid global economy has also led to an increase in global food prices.
In addition to rising demand, climate conditions such as the La Niña weather pattern that occurs in the Americas every few years have led to droughts and a decline in food production. This, too, had led to the rise of global food prices to levels not seen in a decade.
According to the UN Food and Agriculture Organisation (FAO), cereal, sugar, and palm oil prices have seen their largest rise in more than 10 years, due to the high demand for food.
The FAO said that “world cereal output in 2021 is seen on course to hit an all-time record.” However, even this would be “less than the anticipated consumption requirements in 2021/22,” according to the FAO Cereal Supply and Demand Brief, released on 7 October.
Food prices have risen by 32.8 per cent in a year due to the rising demand, especially from China, and the reduction of export capacity amid the global supply chain crisis, according to the FAO Food Price Index, also released in October. The food shortage has hit the US as well, where the price of meat has soared by 25 per cent due to rapidly rising demand during the economic recovery and the lack of capacity by meat producers to keep up with it.
Rapidly rising demand worldwide has also led to a rise in energy prices and to a crisis in the global supply chain.
RISING ENERGY PRICES
2021 started with oil prices at $40 per barrel. Now, they are at more than $80 per barrel.
This is a seven-year high increase in oil prices, due to high demand amid the post-Covid economic recovery and shortages resulting from the hurricane season in the Gulf of Mexico. Hurricane Ida hit the Gulf of Mexico in August and led to a decline in crude oil production and refining. These high oil prices are expected to increase even further.
World Bank economist and energy expert Mamdouh Salameh forecasts that the prices of oil, gas, and coal will rise until 2022 and beyond, due to the rising demand for energy shortages in the supply of natural gas, liquefied natural gas (LNG), and coal. Similarly, the US bank Goldman Sachs forecasts oil prices to reach $90 per barrel by the end of 2021, and the Bank of America forecasts oil prices to reach $120 per barrel by the end of June 2022.
However, oil prices have declined to $70 by early December due to Omicron fears.
Petroleum prices are expected to average $65 per barrel in 2021, compared to an average of $41 in 2020.
China is still suffering from power cuts and electricity rationing due to the rise in global coal prices. More than half of China’s electricity is generated from coal, and the costs of production have increased for Chinese electricity firms due to the increase in coal prices.
This is due to the rising output of Chinese factories to meet the rising global demand for goods amid the post-Covid global recovery. However, since the country’s electricity companies cannot raise prices for consumers due to price ceilings imposed by the government, they have instead chosen to reduce their production of electricity. As a result of these power shortages, Chinese factories have been forced to reduce their output of manufactured goods, and in September 2021, Chinese economic activity reached its lowest level since February 2020, when the effects of Covid reached their peak on China’s economy.
It is because of these energy shortages that China, according to Salameh, is now buying any oil available on the global market, in anticipation of a harsh winter ahead.
Chinese output started to rise in November, but Omicron is a potential threat to this recovery.
The UK, too, is suffering from an energy crisis similar to that of China, as natural gas prices have increased by more than 400 per cent from £50 per megawatt hour (MW/h) in April 2021 to £2,500 in September. (One MW/h is equal to one megawatt, or one million watts, used continuously for one hour, and is roughly equal to the amount of electricity used by 330 homes in one hour).
This rise in natural gas prices is due to rapidly rising demand as factories have started to work again as a result of the post-Covid recovery, as well as the decline in natural gas exports from Russia, due, analysts say, to geopolitical issues. This has led to a rise in the costs of production for British factories and to a decline in production or even closures.
The British foods industry has been affected, resulting in a decline in food supplies in the UK. British factories producing steel, glass, cement, and chemicals are also threatened by high energy prices. There is a debate in the country over the kind of assistance the government should provide to factories in this situation.
The Oxford Institute for Energy Studies, a UK think tank, has called these energy crises in China and Britain a “perfect storm.” But it is not just about energy prices. Perhaps more importantly, it has also been reflected in the bottleneck situation in global supply chains.
SHIPPING AND SUPPLY CRISIS
The post-pandemic economic recovery has also revealed weaknesses in shipping and delivery systems worldwide, most significantly in the US.
Californian ports have been overwhelmed by the vast amount of goods being shipped into the US amid the economic recovery and rising demand for them, partially caused by the billions of dollars in stimulus packages provided by the US government throughout the pandemic.
Dozens of ships from Asia are being forced to wait in line every day off the Californian ports, waiting for their turn to unload at ports whose capacity is not used to such large and sudden shipments. In normal times, the number of ships waiting in line has usually been in single digits. According to Stavros Karamperidis, a lecturer in maritime economics at the University of Plymouth in the UK, the US and the UK have been the victims of their own success. They managed to reopen their economies faster than the rest of the world, thus creating demand, but putting additional stress on supply chains.
US President Joe Biden has made it a priority to solve this shipping and supply chain problem at America’s West Coast ports. “Our goal is not only to get through this immediate bottleneck, but to address the long-standing weaknesses in our transportation supply chains that this pandemic has exposed,” he said.
But Biden will have to act fast, given that his approval rating and that of Vice President Kamala Harris are currently hovering around only 30 per cent, as much of the American public does not think that the economic problems have been handled in an acceptable way.
El-Erian wrote in the Financial Times that this supply chain crisis could last for a year or two.
Companies are adopting to the supply chain problem. One example is IKEA, the world’s largest furniture brand. This has been leasing more ships, buying containers, and re-routing goods as it tries to adapt to ongoing conditions. Jon Abrahamsson, chief executive at Inter IKEA, told Reuters that he expects the crisis to extend into 2022 and that the biggest challenge would be getting goods out of China, where around a quarter of IKEA products are made.
Romero Macau said that companies might move manufacturing away from China, where cheap labour is becoming less available, to other countries such as Vietnam and Mexico that have cheaper labour costs.
Companies like Amazon and Walmart have let their customers keep the goods they want to return, even after refunds, because the cost of returning them is too high to sustain amid the shipment crisis.
Apart from food and energy, another strategically important commodity that is suffering from shortages and high prices is semiconductors.
The world is also going through a semiconductor shortage. Again, this is due to rapidly rising global demand. However, the increasing demand for semiconductors did not start with the global post-Covid economic recovery.
Instead, it started with the global Covid lockdown in early 2020. During the lockdown, offices around the world were shutting down, and many people had to work from home. Restaurants, cinemas, and other entertainment outlets also shut down. As many people had to stay at home, the global demand for laptops, smart phones, gaming consoles and other devices using semiconductors increased, taking manufacturers by surprise.
In order to deal with this sudden increase in demand during the early stages of the lockdown, the production of semiconductors for cars declined, since the demand for cars declined during the early stages of the lockdown in favour of producing semiconductors for laptops, smart phones, gaming consoles and other similar products.
However, the post-Covid economic recovery had led to greater global demand for semiconductors, which, again, has overwhelmed the semiconductor manufacturers that have been unable to keep up with the rapidly rising demand.
This shortage of semiconductors has taken a toll on global production and contributed to the global decline in output. British car production, for example, had dropped by 27 per cent, year on year, by August 2021, due to the lack of semiconductors. Car manufacturers such as Volkswagen, Ford, and Opel have announced temporary closures because of the microchip problem. Opel is closing one of its plants until 2022.
Estimates vary on when the shortage will end. Optimists like Lisa Su, CEO of semiconductor manufacturer Advanced Micro Devices, said that the problem would be solved by the second half of September 2022. Less optimistic forecasts, such as that made by Matt Murphy, CEO of manufacturer Marvell Technology, said the problem would be solved by 2023 or 2024.
RISING US DOLLAR
Amidst these global conditions, the US dollar has been rising in value vis-à-vis other currencies such as the euro, due to the increased demand for dollars as a safe haven during a period of global economic uncertainty.
There are uncertainties regarding the weaknesses of the Chinese economic performance, with the Chinese energy crisis, declining output, and uncertainty on financial policy after the Evergrande $300 billion debt crisis all revealing weaknesses in the country’s economic system.
Other reasons for the rise of the US dollar include the rise in the price of oil, as most of the crude oil around the world is traded in US dollars, increasing the demand for them and therefore raising prices. Another reason is the US central bank the Federal Reserve’s policy of raising the US debt ceiling by increasing the amount of treasury bonds issued by the US government. These bonds are a safe haven for nervous investors, and increasing the debt ceiling might help ease the difficulties the US economy is suffering from.
An additional reason has been rising investment in US dollars. “The US dollar move we’re seeing at present is due to a confluence of factors that are all aligning to create the perfect storm,” said Simon Harvey, senior market analyst at Monex Europe in London.
The global rise in prices and the supply chain crises, which may lead to a “more stagflationary macro environment,” are leading to “markets taking shelter in the US dollar,” he added. The rise in the US dollar continued in early December amid Omicron fears, as the dollar maintained its status as a safe-haven currency.
A rising dollar is not necessarily good for the US economy, since it makes US commodities more expensive relative to those from other countries, thus making US exports more expensive.
Amid all these economic factors, what are the forecasts for the world economy in 2022 and beyond?
The IMF’s October 2021 World Economic Outlook (WEO) report acknowledges that there is “great uncertainty” over the future direction of global inflation for several reasons.
One reason is the global fear of a persistent Covid pandemic, especially with the “rapid spread of Delta and the threat of new variants” of the virus. Other reasons include “the duration of supply disruptions” caused by breaks “in critical links of global supply chains.”
“For the most part, price pressures are expected to subside in 2022,” says the WEO. In “some emerging markets and developing economies,” however, price pressures are “expected to persist” due to higher food prices and higher oil prices, it adds.
Based on these prospects, the WEO forecasts that “the global economy is projected to grow by 5.9 per cent in 2021 and 4.9 per cent in 2022,” and that “beyond 2022, global growth is projected to moderate to about 3.3 per cent over the medium term.” This will add to the “great uncertainty” surrounding prospects for inflation.
It should be born in mind that the global economy contracted by 3.5 per cent in 2020, in other words going through negative growth of 3.5 per cent, according to the IMF’s World Economic Outlook Update of January 2021.
Regarding the Middle East region, the IMF’s Regional Economic Outlook (REO) report for the Middle East and Central Asia (MECA) in October 2021 described recovery in the region as “multispeed”, “uneven”, “incomplete”, and “fragile” and said that the region was going through “persistent” inflation.
This was due to the fast recovery after the pandemic that had led to higher demand, the REO said. Another reason for the persistent inflation is what Jihad Azour, director of the IMF’s Middle East and Central Asia (MECA) Department, has called the “base effect”, where there was a global reduction in prices in 2020, but 2021 saw a rise in prices relative to 2020 as a base year.
Such conditions, of course, are not restricted to the Middle East. On the international level, the IMF report added that the world as a whole was going through “a multispeed global economic recovery” and that “global inflation is rising, partly due to pandemic related supply shortages.”
Azour added in an interview with the TV channel CNBC Arabia that the Gulf states had recovered due to the rise in global oil prices, in addition to reductions in subsidies, efforts to diversify sources of revenue away from fossil-fuel exports, and vaccination and other anti-Covid procedures adapting to the pandemic.
During periods of global inflation, economists should focus on combating that inflation. But if the Omicron variant leads to another lockdown similar to that of 2020, then they might have to focus on declining demand instead. With the advent of Omicron, what comes next depends on what science reveals about the new variant.
A worst-case scenario would be a return to the lockdown, and this, combined with supply chain pressures, would result in global stagflation. Another scenario would be a return to the lockdown, but where the restrictions would result in a decline in demand, leading to a decline in inflation. More benign scenarios would be that Omicron is not as threatening as expected and that even if there is a return to the lockdown, its economic consequences would not be as severe as in 2020 because businesses and households have adapted to the restrictions.
It is still too early to say if Omicron is more infectious or more lethal than the dominant Delta strain.
The economic difficulties that the world is currently going through show that it has to proceed with caution. The Delta and Omicron variants of the virus show that the pandemic is not yet over, and the economic recovery is facing great challenges. There are uncertainties about the future, and social-distancing, facemasks, and vaccination are all still important.
The recent economic developments also reflect the power of global consumers, who started this snowball of events amid the post-Covid economic recovery. It would perhaps be best for consumers around the world to hold onto their money for the time being and to invest it wisely and not go on a shopping spree just yet.
*The writer is a political science lecturer at the British University in Egypt, a member of the Egyptian Council for Foreign Affairs and the Royal Institute of International Affairs, Chatham House, UK.
**A version of this article appears in print in the 23 December, 2021 edition of Al-Ahram Weekly.