Stagflation: a looming crisis

The global economy has been passing through turmoil since the pandemic outbreak in early 2020. And when the economy had started to bounce back after a disastrous couple of years, the Russia-Ukraine war began in February this year, aggravating the situation.  

The recent lockdown in China and the ongoing supply chain disruptions had poured water on a drowned mouse. In the backdrop of such a volatile situation, the World Bank has warned that many countries would fall into the trap of recession, which would last for a longer period of time.

In its latest Global Economic Prospects Report, the World Bank says global economic growth is expected to drop to 2.9 per cent this year, which is 1.2 percentage points lower than the 4.1 per cent predicted in January. Compared to 2021, the predicted growth is much lower.

The misery is far from over.

The forecast for the global economic growth in 2023 and 2024 looks gloomy as well. Growth is expected to hover around the same level in 2022.

To add to the woe, inflation remains abnormally high in many countries. Even some of the stronger economies in the world are feeling the heat!

The US inflation has hit its highest rate in four decades at 8.6 per cent over the last year. Britain's annual inflation rate jumped to 9 per cent in May, the highest in 40 years.

Inflation in Germany also reached its highest level in nearly half a century in May this year. The Harmonised Index of Consumer Prices shows inflation in Germany was 8.7 per cent in May.

Our neighbouring countries are also struggling with high inflation. In India, the Consumer Price Index based inflation was 7.04 per cent in May, though the analysts think inflation hasn't peaked yet and more pain will likely to be seen. It will possibly breach the 8-per cent mark in the coming months.

The inflation rate in Pakistan was 13.8 per cent in May. Sri Lanka is in real trouble. The Colombo Consumer Price Index increased to 39.1 per cent in May from 29.8 per cent in April.

The situation with regard to inflation is similar in Bangladesh.

According to the Bangladesh Bureau of Statistics, the annual inflation rate shot up to 7.42 per cent in May from 6.29 per cent in April. It was the highest price rise since May 2014, underpinned by soaring prices of food.

Food inflation was 8.3 per cent as opposed to 6.23 per cent in April. Experts opined that this challenging situation would persist due to the unfavourable global macroeconomic environment.

In the last two years, Bangladesh did relatively well in comparison to many of its neighbouring countries in terms of GDP growth. However, the country experienced a dip in economic growth in 2020 due to the pandemic.

Our growth fell to 3.45 per cent in 2020 from a record 8.15 per cent in 2019. In 2021, the economy recovered slightly with a growth of 6.94 per cent.

The government sets a target of 7.5 per cent GDP growth in the current fiscal year. The trend clearly shows that we won't be able to reach the level of 2019 even in 2023. This means our economic growth will also slow down like most countries.

It is evident that the economy has to face double blows: stagnant or slow growth coupled with high inflation. Experts term this unusual economic condition as stagflation.

The term was first used by British Conservative Party politician Iain Macleod in a speech to the House of Commons in 1965.

Stagflation refers to a situation where prices keep rising while economic growth slumps. Consequently, unemployment goes up over a period of time.

Usually, inflation and unemployment tend to be inversely correlated. When unemployment rates increase, inflation decreases and vice versa. However, the world witnessed this unusual economic condition in the 1970s and it was devastating.

There are primarily three root causes – supply shock, poor fiscal and monetary policies – for the stagflation to happen. This is clearly detrimental to the economy from many perspectives. For households, as the economy slows down, the overall disposable income of people also gets negatively impacted.

On the other hand, people have to spend more on the same goods and services because of the soaring prices. Resultantly, consumers' spending slows down to adjust to their income. As consumers buy less, revenue declines for businesses eventually. Besides, during such an uncertain period, investment decisions are normally halted.

What should businesses do to combat stagflation?

First, they must prioritise spending. Organisations should delay their expensive purchases that are not critical for business and focus on efficiencies to bring down costs so that they can offer competitive prices.

Maximising productivity also helps to bring down costs. Managing cashflows would be very critical. In order to improve cashflows, companies need to be vigilant to reduce accounts receivables, negotiate with their vendors for longer payment terms and have control over inventories.

They should also be creative in optimising revenues by unfolding all potential opportunities. Businesses can be opportunistic about acquisitions because that will enable them to expand into new markets.

Business organisations alone can't fight stagflation. The government needs to adopt a contractionary monetary policy by increasing the interest rates to curb the money supply, which would help control inflation.

Though the higher rates would hinder new investments causing unemployment to go up, the market usually recovers faster from unemployment than it does from persistently high consumer prices. During the crisis period, the government needs to expand the coverage of its social safety net programmes to help the people having low or no income.

In such a dire situation, there is no alternative for the government and businesses but to work together to avoid potential economic catastrophe. More importantly, the world needs to find a way to immediately stop the war, which is causing unbearable damage.

The author is chairman and managing director of BASF Bangladesh Ltd. Views are personal.