Monday, April 1, 2013

Why Are We Seeing Inflationary Pressures in High Interest Rate Economies?

While the overall level of inflation across the globe is generally under control (a point I'll develop later this week), there are two countries that are experiencing increased inflationary pressures: India and Brazil. 

The following is from the latest interest rate announcement from the reserve bank of India

5. The year-on-year headline WPI inflation edged up to 6.8 per cent in February 2013 from 6.6 per cent in January, essentially reflecting the upward revisions effected to administered prices of petroleum products. On the other hand, non-food manufactured products inflation, and its momentum, continued to ebb along the trajectory that began in September 2012, enabled by softening prices of metals, textiles and rubber products. Worryingly, retail inflation continued on the upward path that set in from October 2012, with the new combined (rural and urban) CPI (Base: 2010=100) inflation at a high of 10.9 per cent in February 2013 on sustained price pressures from food items, especially cereals and proteins. Consequently, the divergence between wholesale and consumer price inflation continued to widen during the year.

This high level of inflation is a big concern for the bank going forward:

12. On the inflation front, some softening of global commodity prices and lower pricing power of corporates domestically is moderating non-food manufactured products inflation. However, the unrelenting rise in food inflation is keeping headline wholesale price inflation above the threshold level and consumer price inflation in double digits. Also, there is still some suppressed inflation related to administered prices which carries latent inflationary pressures. All this complicates the task of inflation management and underscores the imperative of addressing supply constraints. From an inflation perspective, upward revisions in the minimum support prices (MSP) should warrant caution in view of their implications for overall inflation.

Oddly enough, India has high interest rates.  The RBI recent cut rates, but they were cut to 7.5%.  And here's a chart of the 10-year government bond yield:

As for Brazil, consider this from the latest Brazilian inflation report:

The inflation measured by the 12-month IPCA reached 6.31% in February, 0.46 percentage points (p.p.) higher than the rate recorded in February 2012. Market prices increased 7.86% in the 12-month period up to February (up 1.89 p.p. against February 2012), while regulated prices rose 1.53% (down 3.95 p.p. against February 2012). The services sector inflation, which has been higher than total market prices, has reached 8.66% in the 12-month period up to February. The Copom evaluates that the greater dispersion of consumer price increases recently observed, seasonal pressures and pressures localized in the transportation segment, among other factors, contribute for inflation resistance.

Here's a chart of their inflation rate, which shows an obvious increase:

Brazil's discount rate is currently at 7.25%.  In addition, here is the chart of Brazil's 10-year bond yield:

So -- the two countries with some of the highest rates in the world are also experiencing country specific inflation spikes.