Global Inflation Risks Are Being Ignored: Merrill

Source : The Business Times, May 26, 2008

RISING INFLATION

Rising food and energy prices threaten to spark inflationary spiral in emerging economies

(NEW YORK) Policymakers and investors are ignoring the risks of surging food and energy prices, which threaten to spark an inflationary spiral in emerging economies and restrict growth in developed countries, according to a Merrill Lynch report.

'For the first time in our memory, inflation, not growth, is the primary macro driver at the global level,' write Merrill Lynch's global economics team in a research report released last Friday. 'The inflation shock has already happened,' they write.

Last week, US crude oil surged to records above US$135 per barrel, sparking a bond market sell-off that drove benchmark US Treasury note yields near their highest levels year-to-date.

'What matters now is how persistent it (the inflation shock) is and how markets and policymakers react; at a global level, this begs for an accident that will awaken markets and policymakers to the risks,' an event that is likely to happen in the second half of 2008, write the Merrill analysts.

Merrill has sharply raised its 2008 forecast for global consumer price inflation to 4.9 per cent from its prior forecast of 3.4 per cent last November.

Investors should purchase protection against the danger of inflation accidents, one reason being that 'bond yields globally should adjust higher as these risks unfold', the Merrill economists write. 'Inflation supports commodities, inflation- linked fixed income, appreciating currencies and emerging market infrastructure.'

The report suggests that by and large, investors and central banks are only just starting to face the possibility that the current climb of energy and food prices may now become a sustained trend that will change the long-term inflation outlook.

Among the biggest risks from higher global inflation is the likely acceleration of wage growth in emerging markets. In countries which are heavy importers of commodities such as Japan, or face high consumer debt such as the United States, the risk is of unexpectedly higher inflation without a simultaneous increase in wage growth, Merrill expects. -- Reuters