Global economy must start bracing for low inflation, says Raghuram Rajan

“We should be prepared to potentially go back to low inflation regime,” Raghuram Rajan said

Policymakers at central banks, which have resorted to aggressive rate hikes in view of the soaring inflation, should keep in mind that the global economy could return to a low inflation regime, suggests former Reserve Bank of India (RBI) governor Raghuram Rajan.

Central banks must ask themselves if their policies were nimble enough when inflation shifted from low to a high regime, said Rajan who’s now a professor of finance at the University of Chicago Booth School of Business.

“We should be prepared to potentially go back to low inflation regime," Bloomberg reported him as saying on December 2, in a conference organiSed by the Bank of Thailand and the Bank for International Settlements.

“We need to examine what constrained us, Rajan said. “We need to assess if we didn’t recognise inflation building or we were actually waiting for our instruments to play out, wanting to preserve them for the next time.”

Therefore, it is important for central banks today to pursue policies that provide for changes in inflation dynamics over time, he said, adding that headwinds, including de-globalisation, slow growth in China and K-shaped recovery in emerging economies can hurt growth.

Amid volatile times, Rajan said, emerging market central bankers have done a wonderful job in anticipating the need to raise interest rates and it has “served them well.”

Cautious optimism  

Experts are now cautiously optimistic that the worst of the inflation cycle is decisively behind us.

In the US, the CPI inflation slowed to 7.7 percent in October, from 8.2 percent in the previous month, below the expectations of 7.9 percent. This downward surprise provides a long-overdue and welcome signal that the Fed will start cooling down interest rate hikes, and according to Raj Vyas, Portfolio Manager, TejiMandi, there is a probability of a less than 75 bps rate hike in December.

With global commodity prices falling, the inflation trajectory will likely ease further, experts claim, but also point out that though the trend is on the declining side, one might get negatively surprised by service inflation, which needs to be watched carefully.

Crude oil could prove to be a wildcard and, according to Nishit Master, Portfolio Manager, Axis Securities PMS, “any spike in energy prices due to either China opening up or geo-political tensions increasing could disturb this downward inflation trajectory”.

However, Arun Chulani, Co-Founder, First Water Capital Fund, is more cautious and suggests that one factor that has helped the inflation situation is the zero-Covid policy in China. Should China lift this, it is likely to give demand and prices a boost as they begin to kick-start their economy. Thus, “it's too early” to be overly optimistic, he said.

With Bloomberg inputs