Whisper it, but the next challenge for financial markets and policymakers may not be deflation, but the remarkable surge in oil prices from the six-year low touched in January.
Since then, Brent crude futures have risen 45 percent. If that is sustained or even increased throughout this year, inflation next year could rise significantly, posing questions for policymakers largely committed to ultra-loose policy.
No fewer than 27 central banks around the world have eased monetary policy to some extent this year in a battle against deflation, slowing growth or both.
These measures have ranged from interest rate cuts to bond-buying “quantitative easing” programs. All have been in response to the fall in inflation rates and inflation expectations driven by the 60 percent collapse in oil prices over the latter part of last year.
Investors’ bets on the timing of the first interest rate increase from the U.S. Federal Reserve were pushed back to late this year or maybe even 2016, the euro plummeted and global stocks rose to new historical peaks.
But many of these market moves have stalled, some even reversing. Inflation assumptions baked into index-linked bonds have rebounded, the euro is up five weeks out of the last six, and asset prices of oil exporters such as Russia have recovered a large chunk of last year’s dramatic oil-led slump.
“Deflation fears are overdone and we’re seeing some upside surprises now, although risks of persistent low inflation remain,” said Ruben Segura-Cayuela, peripheral euro zone economist at Bank of America Merrill Lynch in London.
“A positive oil shock has a detrimental effect on growth and activity, and could generate some volatility, ” he said.
This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.