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The Global Dangers of Rising US Inflation

At-risk economies may have six months or so to implement self-help measures before any sudden US monetary-policy tightening happens. They are well advised to work on making their exchange rates more flexible, reducing their reliance on foreign-currency debt, and increasing their foreign-exchange reserves.

NEW YORK – As US inflation continues to accelerate, with consumer prices increasing 5% year on year in May, it is not only the US Federal Reserve that needs to remain vigilant. Policymakers around the world – and in vulnerable economies in particular – also should prepare for the possibility that US interest rates will rise faster and sooner than most forecasts currently predict.

After all, the Fed has raised its inflation forecasts significantly over the last 12 months. At its mid-June meeting, the policy-setting Federal Open Market Committee estimated that whole-year inflation in 2021 for personal consumption expenditures would be 3.4%. That is a full percentage point higher than their median projection in March, and more than twice the level forecast back in June 2020.

The rise in US inflation reflects a combination of temporary and structural factors. For example, while partial pandemic-related lockdowns have caused production to decline, large government stimulus programs have sustained household demand, which exceeds supply in many sectors. This component of today’s price increases would presumably disappear once output returns to its full potential.

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