The new fault lines on which the world economy rests

THE PANDEMIC caused a fearsome economic slump, but now a weird, exhilarating boom is in full swing. The oil price has soared, while restaurants and haulage firms are having to fight and flatter to recruit staff. As listed firms signal that profits will hit an all-time high this year, stockmarkets are on a tear. An index produced by JPMorgan Chase and IHS Markit suggests that global growth is at its highest since the exuberant days of 2006.

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Any escape from covid-19 is a cause for celebration. But today’s booming economy is also a source of anxiety, because three fault lines lie beneath the surface. Together, they will determine who prospers, and whether the most unusual recovery in living memory can be sustained.

The first fault line divides the jabs from the jab-nots. Only those countries getting vaccinations into arms will be able to tame covid-19. That is the condition for shops, bars and offices to reopen permanently, and customers and workers to have the confidence to leave their homes. But only one in four people around the world has had a first dose of vaccine and only one in eight is fully protected. Even in America some under-vaccinated states are vulnerable to the infectious Delta variant of the virus.

The second fault line runs between supply and demand. Shortages of microchips have disrupted the manufacture of electronics and cars just when consumers want to binge on them. The cost of shipping goods from China to ports on America’s west coast has quadrupled from its pre-pandemic level. Even as these bottlenecks are unblocked, newly open economies will create fresh imbalances. In some countries people seem keener to go for a drink than they do to work behind the bar, causing a structural labour shortage in the service sector. House prices have surged, suggesting that rents will soon start to rise, too. That could sustain inflation and deepen the sense that housing is unaffordable.

The final fault line is over the withdrawal of stimulus. At some point, the state interventions that began last year must be reversed. Rich-world central banks have bought assets worth over $10trn since the pandemic began and are nervously considering how to extricate themselves without causing a flap in capital markets by tightening too fast. China, whose economy did not shrink in 2020, offers a sign of what is to come: it has tightened credit policy this year, slowing its growth.

Meanwhile, emergency government-aid schemes, such as unemployment-insurance top-ups and eviction moratoriums, are beginning to expire. Households are unlikely to get a fresh infusion of “stimmies” in 2022. Deficits will contract rather than expand, dragging down growth. So far, economies have largely avoided a wave of damaging bankruptcies but nobody knows how well firms will cope once emergency loans come due and workers can no longer be furloughed at taxpayers’ expense.

You might think that an event as extreme as a pandemic, combined with the unprecedented government response to it, would eventually trigger an equally extreme global economic reaction. Pessimists worry about a return to 1970s-style inflation, or a financial crash, or that capitalism’s underlying energy will be drained by state handouts. Such apocalyptic outcomes are possible, but they are not likely. Instead a better way to think about the unusual outlook is to examine how the three fault lines interact differently in different economies.

Start with America. With abundant vaccines and enormous stimulus, it is at the biggest risk of overheating. In recent months inflation has reached levels not seen since the early 1980s. Its labour market is coming under strain as economic activity shifts. Even after a rise of 850,000 in the number of jobs in June and accounting for abundant vacancies, the number of people working in leisure and hospitality is 12{7cf23ffd9f893b42e5168467dbdff3dd8c8539e14232c919813e000f7f93ca07} lower than before the pandemic. Workers are reluctant to return to the industry, which has pushed up wages. Hourly pay is almost 8{7cf23ffd9f893b42e5168467dbdff3dd8c8539e14232c919813e000f7f93ca07} higher than in February 2020. Perhaps they will come back when emergency unemployment benefits expire in September. But countries without such a scheme, like Australia, are also seeing a labour shortage. Attitudes to work may be changing at the bottom of the income spectrum, among waiters and cleaners, not just among well-heeled professionals who dream of yachts and sabbaticals. All this suggests that America’s economy will run hot, with continual pressure on the Federal Reserve to tighten policy.

Elsewhere in the rich world the picture is less exuberant. It includes some jab-nots, like Japan, which has fully vaccinated less than 15{7cf23ffd9f893b42e5168467dbdff3dd8c8539e14232c919813e000f7f93ca07} of its population. Europe is catching up on vaccines, but its smaller stimulus means that inflation has not reached American levels. In Britain, France and Switzerland 8-13{7cf23ffd9f893b42e5168467dbdff3dd8c8539e14232c919813e000f7f93ca07} of employees remained on furlough schemes at the end of May. In all these economies the risk is that policymakers overreact to temporary, imported inflation, withdrawing support too quickly. If so, their economies will suffer, just as the euro area suffered after the financial crisis of 2007-09.

Low- and middle-income countries are in a bind. They should be benefiting from surging global demand for commodities and factory goods, but they are struggling. Indonesia, battling another covid-19 wave, is redeploying oxygen from industry to hospitals. In 2021 the poorest countries, which are desperately short of vaccines, are forecast to grow more slowly than rich countries for only the third time in 25 years.

Even as covid-19 weakens their recoveries, emerging markets face the prospect of higher interest rates at the Fed. That tends to put downward pressure on their currencies as investors buy dollars, raising the risk of financial instability. Their central banks do not have the luxury of ignoring temporary or imported inflation. Brazil, Mexico and Russia have raised interest rates recently, and more places may follow. The combination of jabbing too late and tightening too soon will be painful.

Prepare to take shelter

The economic cycle has been frantic, leaving the slump far behind in only a year. Perhaps by the summer of 2022 most people will be vaccinated, business will have adapted to new patterns of demand and stimulus will be unwinding in an orderly way. In this weird boom, however, beware those fault lines.

Dig deeper

Central banks face a daunting task: tapering without the tantrum (July 2021)
Will surprisingly high levels of inflation last? (July 2021)

This article appeared in the Leaders section of the print edition under the headline “Fault lines in the world economy”

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