26 June 2022
- Timely and decisive action by central banks is needed to restore low and stable inflation while limiting the hit to growth and safeguarding financial stability.
- The risk of stagflation looms over the global economy as the threat of a new inflation era coincides with a weaker outlook for growth and elevated financial vulnerabilities.
- Policymakers must press ahead with reforms to support long-term growth and lay the groundwork for more normal fiscal and monetary policy settings.
In its flagship economic report, the Bank for International Settlements (BIS) said the global economy risks entering a new era of high inflation. Stagflation dangers loom large, as a combination of lingering disruptions from the pandemic, the war in Ukraine, soaring commodity prices and financial vulnerabilities cloud the outlook.
According to the BIS’s Annual Economic Report 2022, the priority for central banks is to restore low and stable inflation. In doing so, they should seek to minimise the hit to economic activity, thereby safeguarding financial stability. Engineering such a “soft landing” has historically been difficult, and the starting conditions today make it challenging, the BIS said.
The BIS said a repeat of the 1970s stagflation is unlikely due to improved monetary policy and macroprudential frameworks and less reliance on energy, but warned that the current backdrop of financial vulnerabilities – high debt and overvalued asset prices – could magnify any slowdown. The key for central banks is to act quickly and decisively before inflation becomes entrenched. If it does, the costs of bringing it back under control will be higher. The longer-term benefits of preserving stability for households and businesses outweigh any short-term costs. 
The report delves into the inflationary process to shed light on how and under which conditions price changes in specific goods and services can morph into broader-based, persistently higher inflation. BIS analysis shows that in high inflation environments, price changes for individual items like food or gas tend to exert a bigger and more persistent effect on overall inflation than they do when inflation is low. During transitions from low to high inflation regimes, inflation pressures tend to become self-reinforcing, as individual price changes start to matter more for people’s behaviour.
The near-term challenge of ensuring low inflation co-exists with the long-standing one of regaining future safety margins in macroeconomic policies. Pressures on fiscal policy are mounting. This complicates the task for monetary policy and highlights the importance of reforms to support long-term growth.
The report also analyses: The impact of rising commodity prices today compared with the 1970s The determinants of hard vs soft landings after monetary policy tightening How price changes spill over across sectors The possible impact on growth and asset prices of higher interest rates
