Global stagflation affects everyone, including the Gulf

While Qatar has largely escaped the stagflation experienced by much of the world, rising interest rates and inflation pose problems for some businesses and households, who will expect a policy response.

Economic growth is projected to be just under 3% for Qatar this year, according to the International Monetary Fund, while inflation is 5%, higher than policy-makers would like but lower than much of the world.

Such data would not cause alarm in most capitals around the world, and would not appear to qualify as ‘stagflation’. This term does, however, describe much of the economic world, in some cases for the first time in decades. Describing a period of stubbornly high inflation with little economic growth, its origin is generally attributed to a speech in the British Parliament in 1965 by the Conservative politician Iain Macleod.

Much of the economic world has been affected by inflation rates at or near double figures, while growth has stalled. In order to curb inflation, central banks have been raising interest rates significantly since last year. But the problem is persistent. Current inflation is ‘sticky’ because many of its causes are to do with geopolitical disruptions and supply chain problems, rather than being the result of an overheating economy towards the end of a boom. So it is less susceptible to rate rises.

Earlier this year there was some optimism that interest rates may have peaked, but inflation has remained stubbornly high in some major economies. In April in the US, the personal consumption expenditures price index rose 0.4%, faster than expected. Core inflation remains in the 4-5% range, compared with a policy target of 2%.

The Federal Reserve announced a 0.25% interest rate rise in early May, taking the benchmark rate to 5.25%, the highest in 16 years, up from near zero in March 2022. Traders have fully priced in a further 25 basis points rise by the Federal Reserve, possibly in June or July.

Market watchers are now anticipating further rises, indicating a peak later this year, with estimates of a 50% probability of a second increase of 25 basis points later this year.

There is much debate among economists over whether high rates are here to stay, or whether they constitute a temporary phase, albeit a significant one. But it is almost certain that relatively high interest rates – certainly by comparison with the last decade and a half – will be with us for around another year or more, with significant implications for households, business leaders and policy-makers. Mortgage rates in the US have reached 7%, although there has been no substantial fall in house prices.

In Qatar, despite relatively benign economic conditions – owing to oil prices that have recovered since the pandemic, high demand for liquefied natural gas, and sensible economic management – problems related to stagflation have nonetheless affected the country, in at least two ways.

Firstly, because the Riyal is pegged to the dollar, an increase in interest rates in Washington tends to be followed by Qatar, in order to maintain the exchange rate, even if the rate is not optimal for the Qatari economy. The dollar peg was reaffirmed last month at the Qatar Economic Forum by Sheikh Bandar bin Mohammed bin Saoud Al Thani, the governor of Qatar Central Bank.

Also at the Forum, the governor stressed the importance of controlling inflation. He said: ‘The high inflation rate is a major enemy of the economy; it greatly affects household income. It was noted that the inflation indicators have decreased, but we are now seeing some challenges to reach normal rates of inflation at the present time, and global inflation may need some time until it reaches the levels targeted by the central banks.’

Secondly, while the economy in Qatar in aggregate is not affected by stagflation, certain households and businesses are – they have experienced reduced prospects while having to accommodate higher costs. Some have significant debt levels, the cost of which rises with interest rates, while inflation of essential products has squeezed disposable incomes. Overall economic growth has been maintained, but not all sectors have benefited equally. The construction and hospitality sectors, for example, are experiencing the end of a long boom over the past decade during which Qatar modernised its infrastructure and hosted the FIFA World Cup. Since then there has been the Qatar Economic Forum, and Qatar Expo, while the Government has encouraged tourism, but these initiatives have not been on the same scale.

To alleviate living standards, and to prevent recession, are there measures that the Government could take? Simply increasing public sector wages would be the easiest, but it suffers from major disadvantages: it is short term, it may fuel further inflation, and it does little to spur business activity and enterprise.

Price controls have been discussed in many countries. They address the fact that current inflationary pressures are more structural than cyclical, but they can be difficult to implement, and have problems of unintended consequences, such as pressure on retailers’ margins negatively affecting wages within the sector. In Qatar, the Government has subsidised certain essential items for Qatari citizens, such as flour, to help those on the lowest incomes.

Another option is Government subsidies to promote certain sectors of the economy. If implemented, they should be strategic in focus: aimed at building sectors of the economy, and nurturing high-skilled clusters of educational institutions, start-ups and other businesses, not simply subsidies to maintain existing operations.

The problem of inflation was discussed in March by the Shura Council, It noted that many of the pressures were external, to do with supply chain issues, but it made sensible recommendations around the importance of ensuring market competition, to prevent monopolies from developing in sectors of the economy, which generally causes prices to rise. The Council reported that improved international competitiveness of companies in commodities and food sectors can encourage more efficiency and lower prices, reducing inflation. Members also drew attention to high rental and real estate prices, which put upward pressure on prices.

Short-term pressures on living standards should not deflect policy-makers from long-term strategic economic planning, but they do have to be addressed. The right policy mix can address both sets of challenges.

Published in the?Gulf Times?12 June 2023