Is The New Zealand Economy Staring At Stagflation?

Thursday, 24 March 2022, 6:18 am
Press Release: Kalkine

Highlights

• Speculations are rife that the NZ economy might be facing stagflation amidst slow economic growth and elevated inflation.
• The current oil price shock stemming from the Russia-Ukraine war has prompted experts to believe that stagflation is underway.
• The government is currently embracing tighter monetary policy to tame high inflation.

Inflationary pressures have been mounting across the globe since the Russia-Ukraine war began. With economic growth slowing down and commodity prices increasing each passing day, many wonder if stagflation is underway. To the uninitiated, stagflation is a situation of elevated inflation and a high unemployment rate, which causes economic growth to stagnate.

Much of the uncertainty has stemmed from existing supply chain bottlenecks, which have intensified amidst the Russia-Ukraine conflict. In a way, a lot of volatility seen in early 2020 has surfaced again, fuelling speculations of reduced consumer demand. Meanwhile, price pressures have aggravated due to supply-side concerns. Amidst the changing market dynamics, investors and market professionals have developed fears surrounding stagflation.

Generally, during stagflation, the unemployment rate soars, making it difficult for individuals to afford the necessities. The current oil price shock arising from the Russia-Ukraine war shows an uncanny resemblance to the initiation of the previous stagflation seen in the 1970s. Experts are worried about how these global shockwaves have eventually found a way towards the island nation.

ALSO READ: Why is stagflation back on investors' minds?

Why are stagflation fears surfacing?

Interestingly, in 2022, consumer confidence has taken a hit even in the absence of lockdowns. With inflation prevailing at a record high level, a recession-like scenario is feared across the economy. Meanwhile, many businesses have decided to shut down due to lower-than-usual demand for goods and services, impacting economic growth.

For New Zealanders, the situation is more complex with the continuing restrictions and COVID-related protocols that do not see an end. One can say that the impact of the pandemic is still lingering in the country, apart from external disruptions that have managed to seep into the domestic economy. Thus, the economy seems to be facing its toughest challenge of staying resilient from pandemic-driven impacts and geopolitical tensions.

At the same time, the country is witnessing a long bout of inflation since the economic recovery took over after the removal of lockdown restrictions. Certain experts suggest that such expansionary inflation is deemed normal and just a silent side effect of economic revival. However, one cannot neglect that this inflation has risen alongside an economic slowdown due to global market disruptions.

What can be done?

The prior instances of stagflation have taught economies to steer clear of such scenarios and embrace appropriate methods to avoid them. In NZ, the stagflation of the 1970s wreaked much havoc and caused widespread economic turmoil. Thus, when experts get a whiff of stagflation, they become fearful of its consequences, especially given NZ’s highly restrictive policy setup under COVID-19.

Experts predict that circumstances might deteriorate with time as more people develop fears of becoming worse off amidst high inflation.

A possible solution to stagflation can be implementing supply-side policies, such as tax cuts, which have helped control the situation in the past. As inflation gradually eats away the value of money, tax cuts offer consumers leeway to manage their expenses. However, tax cuts need to be implemented in a way that the burden is least on lower-income groups and maximum on higher-income groups.

At present, the NZ government is embracing tighter monetary policy to tame high inflation, like a rise in interest rates. However, the rising interest rates environment has made the outlook for an average consumer bleaker. Concerns loom that increasing interest rates can disincentivise investment spending and raise the mortgage payments for loan holders, leading to lower household spending.

In fact, experts fear that an aggressive rise in interest rates can further prompt stagflation via economic slowdown. It will be safe to say that there is no easy solution to stagflation.

In a nutshell, policies favouring domestic consumption could help the NZ economy revive in the short run. However, most of the challenges facing the economy are external. Thus, little can be done to manage global factors and their impact on the economy. Indeed, the complete impact of these market forces would be visible on the economy with time.

GOOD READ: What is Stagflation? How is it different from inflation?

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