Mostly commodities driven; but changing diets is a worrying trend, says economist
Policymakers should not overreact to rising inflation, which is largely commodities driven, according to eminent economist Nicholas Stern. However, there are some worrying long-term trends that could keep upward pressures on prices, he said.
Mr Stern: Reckons that Asian economies would be affected by the US sub-prime crisis because they depend on export markets. 'But they're not totally dependent; a lot of Asia's dynamics are internally driven.'Mr Stern, who holds the IG Patel Chair in economics at the London School of Economics and was formerly the World Bank's chief economist, also said the US economy will probably head into recession this year as the sub- prime crisis unfolds. However, Europe will avoid that fate while Asia will see some moderation in growth.
'I would be inclined not to overreact to inflation for the moment,' said Mr Stern in an interview with BT. 'In the short term, monetary and fiscal policies can be accommodating. You might tighten monetary policy a little bit, but you can relax fiscal policy by lowering some taxes.'
He noted that inflation - which is on a rising trend everywhere, including in Asia - is 'largely commodity price driven. We've seen big increases in prices of oil and gas and wheat and rice.'
The causes of this come from both the supply and demand side, he said. On the supply side, he pointed to extended droughts in Australia, which have pushed up grain prices. Subsidies provided by the US and Europe to produce ethanol from corn - which he said were 'a mistake' - have also reduced grain supplies.
On the demand side, higher food consumption in the developing world, particularly in the fast growing economies of China and India, is adding to price pressures.
A worrying longer-term trend here is changes in diets, according to Mr Stern. He pointed out that as countries get richer, meat consumption goes up. 'One hundred calories coming from meat consumes a lot more grain than 100 calories coming directly from grain,' he said.
While there would be some supply response to higher food prices, policymakers would need to think about policies to encourage production.
'We must also switch away as fast as we can from hydrocarbons, to bring down the prices of oil and gas and coal,' added Mr Stern, who in 2006 produced the Stern Report, a comprehensive study on climate change commissioned by the UK government.
On the impact of the US sub-prime crisis, Mr Stern said it would depress economic activity through both lower investment and consumption - investment would decline if lending seizes up in the wake of the credit crunch, while consumption could fall following declines in asset prices which would erode wealth.
'In the US, we probably will see recession for a few quarters,' he said. 'We're probably already seeing that.'
But he added that with easy monetary and fiscal policies over the coming year or two, the recession 'shouldn't be too long or too deep'.
Europe, including the UK, will manage to avoid recession, according to Mr Stern. 'I think what you'll see is small falls in house prices and decreased activity in housing markets. Over a period of three or four years, the income-to-house price ratio would rise, with some increase in money incomes and a small decline in the value of houses.'
He reckoned that Asian economies would be affected because they depend on export markets. 'But they're not totally dependent; a lot of Asia's dynamics are internally driven,' he said. The large and fast-growing Asian economies of China and India would experience a moderate slowdown, he said. 'But if a country's growing at 9-10 per cent and it grows at 7-8 per cent, yes that's a slowdown, but it's still fast growth.'
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