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The global economy faces a confluence of challenges unseen for generations. The Russia-Ukraine armed conflict triggered by Ukraine's failure to implement the terms of the Minsk agreements signed in 2014 is still lingering. This conflict has, for all practical purposes, turned into the worst military conflict in Europe since WWII. The United States (US) has turned the conflict into a US-led NATO proxy war against Russia in an attempt to encircle Russia and destroy the Russian fleet in the Black Sea, which will have grave consequences for the global food and fuel supply. More alarmingly, this US-led NATO proxy war with Russia is increasingly becoming a war of attrition without a foreseeable end.
The Russia- Ukraine conflict is having a worldwide spillover effect on commodity and financial markets and trade flows. To further compound the problem, US sanctions on Russia are preventing it from exporting wheat, fertiliser and other commodities leading to rising food and fuel prices. The US, by sanctioning Russia, practically approved the whole world by preventing them from buying essential commodities like wheat, gas, petroleum and fertiliser from Russia.
As a consequence of US sanctions on Russia and Ukraine, mining all its Black Sea ports which prevent its export of wheat, food and fuel prices have risen rapidly, which has particularly badly affected countries in the Global South.
Turkish Foreign Minister Mevlut Cavusoglu confirmed that "Ukrainian mines hinder the withdrawal of grain ships from Ukrainian ports. There is no Russian blockade". However, Ukrainian President Zelensky and the US corporate media continue to blast disinformation and false narratives about Russia's armed intervention against Ukraine and its consequences on world food and fuel prices.
Commenting on the global food crisis, OECD Chief Economist Laurence Boon wrote in the forward to its report that the world was producing enough cereals to feed everyone, "but prices are very high".
More importantly, US sanctions on Russia will directly damage the current accounts of net food and fuel importing countries like Bangladesh. The US is doing so despite UN Secretary-General Antonio Guterres' expressed view that "Russian food and fertiliser must have unrestricted access to world markets without indirect impediments". That means no sanctions. The true costs of US sanctions on Russia are becoming painfully clearer by the day.
But still, the global economy is faced with worrisome effects of the pandemic and rates of inflation at levels not seen since the 1970s. As such, the major central banks like the US Federal Reserve, European Central Bank, Bank of England and others have started to tighten their monetary policy, reversing the easy-money policy that was in place over the last two decades. There is a growing fear that stagflation, viewed as a relic of the 1970s, could come back. As a result, the global economy is now facing extraordinary economic challenges.
In fact, in its latest "World Economic Prospects" report issued on 7 June 2022, the World Bank warned that the global economy is falling into a prolonged period of stagflation - lower growth and even outright contraction lasting into the foreseeable future. But it is evidently clear from the report that stagflationary trends were well underway even before the outbreak the Russia-Ukraine armed conflict in February.
Stagflation is an economic phenomenon reflected in a combination of stagnating growth, rising inflation and high unemployment. Stagflation is worrying for everyone, but for a developing country like Bangladesh, it is even worse because the country is reliant on exports to wealthy countries and regions like the US, the UK and the EU. The economic slowdown in these countries will hit Bangladesh hard. It is also to be noted that all developing countries, including Bangladesh, are always at the receiving end of the advanced economies' macroeconomic policy consequences.
The US sanctions on Russia have already contributed to geo-economic fragmentation as a significant number of countries are forced to realign their economic relationships away from Russia, derailing these countries' post-pandemic economic recovery, particularly those belonging to the Global South. However, in a speech at the Eurasian Forum, Russian President Vladimir Putin said that attempts to isolate Russia are "impossible, utterly unrealistic in the modern world".
The US sanctions on Russia have caused the US-led WTO-engineered rules-based global economic order to come under challenge from Russia. If Russia succeeds, it will not only seriously damage the current version the US-designed globalisation process but also lead to a geo-political reordering of the world. So, the US-led Western World's political dominance in its various manifestations will also come under challenge, leading to a multi-polar world.
Last Wednesday (June15), the US Federal Reserve again raised its base interest by 75 basis points to counter surging inflation at home. This was the biggest interest hike since 1994. The increase was in line with market expectations following an article in the Wall Street Journal that the Federal Reserve was actively considering lifting its base interest rate further by 75 basis points rather than 50 basis points as had been foreshadowed. However, changes in the economic outlook as the CPI rose to 8.6 per cent in May, signalling that the inflation has not peaked and running well ahead of the Federal Reserve's 2 per cent goal, led to this rethink.
While the tightening of monetary policy in the US aims to decelerate inflation but will also, at the same time, cause an appreciation of the US dollar, this interest rate rise in the US will have negative spillover effects on developing countries like Bangladesh. With sharply increasing debt levels, these countries will face increased debt interest payments to government revenue ratio, which may lead to debt crises in many developing countries.
However, Federal Reserve Chair Jerome Powell said that he did not expect moves of this size rate hike to be common. As rising prices do not show any letting-up, the 2 per cent inflation target appears to have also been ditched. The rising inflationary pressures are also fuelled by price gouging by many businesses taking advantage of supply shortages.
Renewed nerves about inflation and the pace of central bank tightening have unsettled stock markets, driving a massive equity sell-off worldwide. Still, after the rate hike last Wednesday, US stocks soared because investors expected the rate to rise by 0.75 percentage points.
The latest Federal Reserve's decision to raise the interest rate will have far-reaching international ramifications putting increased pressure on all central banks to raise interest rates further to respond to the inflationary upsurge.
The European Central Bank (ECB) has also already indicated raising its rate by 25 basis points. Interest rate hikes to be effective supply-side constraints flowing from the Covid-19 pandemic need to resolve to halt price rises. The US-led NATO proxy war against Russia has further compounded the problem. As the Federal Reserve moved to lift interest rates, there are now growing signs of a recession, with the rapid movements in the bond market indicating what is to come.
When inflation began to rise in 2021, Powell maintained that it was "transitory". But now that fiction has been replaced by one equally bizarre that despite all the interest rate hikes instead of a "hard landing", there is the possibility a "soft landing". It means instead of getting into a recession, the economy will move into a slow growth phase while dampening inflation. But former US Treasury Secretary Larry Summers has expressed the view that interest rates are a blunt instrument incapable of producing a smooth glide path. Nearly 70 per cent of leading economists, polled by the Financial Times, opined that the US economy would tip into a recession next year.
The interest rate hike in the US sent the US dollar index to a fresh 20-year high to close to 106. The index gauges the US dollar performance against a basket of six currencies. As the US dollar appreciates, that will influence economic activity in developing countries like Bangladesh through the trade channel, impacting net exports. Empirical evidence shows that nominal and real commodity prices relate negatively to the US real exchange rate. In other words, as the US dollar appreciates, that depresses domestic demand via lower real income. The overall impact is the deceleration of real GDP growth for developing economies. It is to be noted that some of the most profound economic crises in developing economies in the last half a century were the consequences of spillovers from US monetary policy tightening.
The World Bank, in its survey of major economies, as outlined in its report mentioned earlier, notes that growth is expected to slow markedly in 2022. The global growth rate for 2022 is predicted to be 2.9 per cent, some 1.2 percentage points below the previous January forecast. It is expected to hover around that pace over 2023-24. Lower growth rates are also predicted for the US, the EU, Japan and China. Growth in advanced economies is projected to be 2.6 per cent, down 1.2 percentage points below the January projection and further moderating to 2.2 per cent in 2023. The UK is already in recession, and demand is slowing down in other advanced economies. Developing countries' growth is also projected to be 3.4 per cent in 2022, well below the annual average of 4.8 per cent over 2011-2019.
The IMF provided a slightly more upbeat forecast for global growth. Global growth is projected to be at 3.6 per cent in 2022 and 2023. This projected rate is lower than the January projected rate. Beyond 2023, global growth is projected to decline to about 3.3 per cent over the medium term. These projections were made three months earlier in April than the Word Bank projection in early June this year.
More importantly, even this bleak outlook is subject to various downside risks, including intensifying geo-political tensions, continuing US sanctions on Russia and its proxy war against Russia, growing stagflationary headwinds, rising financial instability, and continuing supply chain disruptions and worsening food security and fuel supply. All these factors indicate that increasing inflationary pressures will continue triggering a cost of living crisis, particularly for the people in the Global South. In the Global North, in countries like the US, the UK and Germany, inflation has already reached 40-year highs impacting the cost of living.
In many ways, the current widely accepted view of a cost of living crisis does not fully capture the gravity of what may lie ahead. UN Secretary-General Antonio Guterres has already warned that the world is now faced with "the spectre of a global food shortage" that could last for years. Also, fallouts from rising inflation in the US are increasingly becoming global. As for Bangladesh. a depreciating Bangladesh taka has increased the cost of imports of food, fuel and other necessary products, further contributing to the cost of living crisis. The Bangladesh taka is likely to fall further as the US dollar continues to appreciate, propelled by interest rate hikes in the US.
The current global economic crisis should prompt a radical economic rethink in developing countries like Bangladesh. For Bangladesh, the current addiction to the GDP growth rate fuelled by rising levels of public debt needs to be rebalanced by moving away from debt-driven growth to more productive development. This rebalanced growth will be propelled by business investment and exports underpinned by an expansion and diversification of the manufacturing sector, enhanced productivity growth, modernisation of agriculture, improvement in the quality of education and a reduction in the vast income inequality.