Inflation has been on a declining path in advanced countries, albeit with some stickiness in services inflation. But higher oil prices – which are up about 30% over the last two months – could add a significant hurdle to this disinflation process and keep policy rates higher for longer. The impact of higher oil prices typically depends both on how quickly and by how much they rise, and whether the shock is long-lasting or temporary.
Whether this takes us to a higher path for inflation will depend on how policy reacts: will central banks accommodate or strongly guard against the second-round effects of higher oil prices? An IMF study* finds that a 10% increase in oil prices leads to a rise in inflation of about 0.4%, with the impact lasting, on average, for two years. But the impact on inflation has been significantly lower since 2000, largely due to monetary policy acting to limit the contagion.
We view the current shock as temporary. Supply restrictions by OPEC+ likely account for about 60% of the rise in prices, while about 30% is due to demand – global growth remains subdued. A predominantly negative supply shock would tend to increase headline inflation and at the same time reduce consumer purchasing power. This in turn will weigh on growth and limit the impact on generalised inflation. With monetary policy already tight, we do not expect demand pressures to accommodate higher oil prices.
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