Inflation Is Taking Hold Worldwide. Where Is It Hitting The Hardest?

Key takeaways

• Many factors have led to the high rate of inflation the world is experiencing.
• Many countries are experiencing high inflation, some closing in on 10%.
• The main tool to fight inflation is higher interest rates, but they take time to have an impact.

U.S. consumers have been dealing with rising inflation for nearly a year. However, many of us don’t consider the global effects of inflation, and how it hits different in different parts of the world.

In response to the increase in inflation, the U.S. Federal Reserve is aggressively raising interest rates here at home. Central banks throughout the world take similar measures. Let’s take a closer look at how we got here, where inflation hits the hardest, and what other countries are doing to limit the damage.

How did we get high inflation?

The inflation we are experiencing today originates from various factors, such as:

• Government spending
• COVID-19
• Supply chain issues
• Higher wages
• Strong consumer demand
• Slow policy responses
• Russian invasion of Ukraine.

The most significant factor overall was the pandemic. Countries throughout the world went into lockdown, closing borders in an attempt to limit the spread of the disease. Doing so created a ripple effect throughout the supply chain.

This problem was compounded by the stimulus money and financial assistance governments paid out to citizens. With money to spend, people continued to buy things. With lower inventories but strong demand, prices naturally rose. Pricing was driven up even higher due to the waves of panic shopping that occurred at the start of the pandemic.

As states began to reopen in the U.S., businesses needed workers. Given the high number of job openings, workers could confidently demand higher pay. With higher income comes more consumer spending (as well as the obvious increased hiring costs for companies), which caused prices to surge higher still.

Entwined in all of this, the Federal Reserve was slow to react to these economic forces. The Fed repeatedly said inflation was temporary throughout the pandemic and would quickly pass, and decided not to increase interest rates. Because money was cheap to borrow, businesses and consumers continued to spend. The result has been runaway inflation at levels the U.S. has not seen for 40 years.

Finally, the Russia-Ukraine conflict caused energy and food prices to spike. While energy prices have receded from their highs, food prices continue to rise as Ukraine — known as the breadbasket of Europe — remains cut off from their usual shipping lanes over land and by sea.

This same story, with some variations, is playing out worldwide. Countries are facing record inflation and are now trying to play catchup to slow it down. They walk a fine line between being too aggressive and sending their economies into a recession and not doing enough to sufficiently tamp down inflation.

Many experts believe the U.S. will be in a recession soon, and many others warn of a global recession. Currently, 80% of major economies are experiencing a slowdown in gross domestic product.

The good news is most experts don’t expect a severe recession like in 2008 when the housing market collapsed. Instead, they expect this recession to be mild, and prolonged. With a recession that expands globally, investors can expect below-average stock market returns, high unemployment, stagnant wage growth and low consumer demand.

Where is inflation worst?

The worst inflation numbers come from Turkey, with their consumer price index (or CPI) at 80%. A close second is Argentina, with a rate of 78.5%. These are anomalies, however, as political and currency issues have played a significant role in the astronomical inflation in these countries.

Many countries, including Sweden, Denmark, Mexico and Brazil, are pushing 10%.

Here are some additional countries alongside their most recent CPI numbers:

• Thailand: 7.9%
• Taiwan: 2.7%
• Australia: 6.1%
• South Korea: 5.7%
• Canada: 7.6%
• China: 2.5%
• Russia: 14.3%

While the definition of inflation is the same no matter where you travel in the world, each country differs from the United States. So getting an apples-to-apples comparison between the U.S. and other countries is nearly impossible.

Take Turkey, for example, one of the main reasons for their high inflation numbers is the decline in their currency, the lira. Since the U.S. dollar is the world’s reserve currency, it is much more stable. If you look at the inflation rate in Turkey, you see that inflation was double digits from the mid-1970s through early 2003. In the U.S., inflation has largely been under control since the early 1980s.

On the other end of the spectrum is the U.K., which is seeing inflation around 10%. This is due to the impact of the pandemic on the supply chain and high oil prices from the Russia-Ukraine conflict. Unlike Turkey, the currency is stable and does not have as large of an impact.

While 10% inflation seems high, some reports predict that inflation in the U.K. will rise to 14% this fall and reach 18% next year. This is much higher than in the U.S., where economists estimate that the economy has already hit peak inflation.

How do higher interest rates slow inflation?

Higher interest rates slow inflation for a few reasons. First, when you raise interest rates, businesses borrow less money because debt is now more expensive. Since they borrow money to fund growth, it is only natural that growth will slow. This also leads to companies hiring fewer workers, bringing wage growth and employment down.

Likewise, consumers also borrow less money to purchase new homes and cars when interest rates are high. Instead, they save more because they can get a higher return on their savings.

Combine these, and you have slower demand because of higher interest rates and fewer jobs. This results in prices coming down — or at least not going up. Once inflation returns to the target rate of 2-3% in the U.S., the Federal Reserve will work to keep it at this level by lowering interest rates.

How are other countries addressing inflation?

The Federal Reserve is aggressively raising interest rates in the U.S. to cool off inflation. Fed Chairman Jerome Powell targets a fed funds rate of 4-4.5%, but this will depend on future CPI reports and other economic data.

What about other countries? For example, the Bank of England is raising interest rates in the U.K. to combat inflation. Another tool the U.K. is using is energy price caps. While these caps limit the amount that energy prices can increase, it sets the price for six months. This could mean inflation stays higher for much longer because high prices are locked in for half the year. There are now talks about changing this price cap to three months to help fight inflation.

In Turkey, the opposite is happening. They are lowering interest rates. President Erdogan believes raising interest rates will increase inflation, not lower it. Currently, interest rates in Turkey are around 13%.

Japan, whose CPI stands at 2.6%, is holding firm and is not increasing interest rates. The country is still facing slow economic growth that has persisted for years, so the Bank of Japan is nervous about raising rates and slowing the economy even more. However, Japan did step in to support the yen, which has depreciated 20% this year alone. The hope is that by stopping the decline in the currency, the cost of imports (including energy) will be more palatable.

The Bank of Canada is also working to raise interest rates to fight inflation. Most central banks across the world are raising interest rates to fight inflation but not doing much else. There are few tools available for fighting inflation, and unfortunately, interest rate hikes take time to kick in.

The bottom line

Worldwide, countries are experiencing inflation due to the fallout of the pandemic and the conflict between Russia and Ukraine. Most central banks use monetary policy to combat the rise in prices – namely, increasing interest rates – as their primary weapon.

The problem is that it takes time for higher interest rates to trickle through the economy, so while it might appear like this strategy is not working, it very well could be having an effect already. The banks toe a narrow line between too much intervention and too little; central banks being too aggressive could unintentionally send economies into a recession. And a global recession is not something anyone wants to deal with.

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