How has 2022 been for the global economy?

2022 is coming to an end, a year full of changes for the world economy. What have been the great economic milestones that have changed our day to day? Let’s see it!

the ukrainian war

The price of electricity, already on the rise since mid-2021, grew strongly, reaching extreme levels in Europe

The year 2022 began with a big question mark: inflation. The first alarm signals had already gone off in the middle of 2021, starting with the rise in the stock markets and the rise in the prices of raw materials. Later, the rise in transport fueled fears that the global economy may be overheating, as retailers began to report strong cost pressure.

The world thus reached January 2022 with an inflationary process in the offing, financial markets that were much less euphoric and an increasingly slow growth rate. In this context, the war in Ukraine arrived.

The direct effects of the conflict were the first to appear. Being Ukraine one of the main world producers of wheat, the price of flour and bread increased all over the world. In some Middle Eastern countries such as Egypt or Iran, especially dependent on Ukrainian wheat, the war caused a severe shortage of basic products.

Then came US sanctions on Russia, seconded by the European Union, Japan and many other countries. Beyond the freeze on Russian assets and the restriction on the use of the ruble abroad, energy-related measures had the greatest impact. The reason for this is that by restricting imports of gas and oil from Russia, the world has lost one of the largest suppliers of fossil fuels.

The price of electricity, already on the rise since mid-2021, grew strongly, reaching extreme levels in Europe. To give us an idea of ​​the magnitude of this increase, we are talking about a year-on-year increase of 411% in Spain and Portugal, 343% in Greece and 336% in France, in the first quarter of the year.

To this day, the war in Ukraine continues, and although developments such as the resumption of grain exports have brought some calm to the markets, the energy sector continues to have a difficult time. It could not be otherwise, since after all, we are talking about leaving the world’s second largest producer of gas and oil out of the market.

The price of life

Many people confuse the effects of the war with the inflation that was already brewing since last year, but the result is the same: living today is much more expensive than at the beginning of this year.

As we have discussed, the war in Ukraine deepened a previous problem regarding the cost of living. Let us remember that the problem was not new, since an inflationary process was already brewing in 2021, because the world’s central banks had decided to face the pandemic by increasing the amount of money in circulation like never before.

As usually happens when the money supply grows above demand, this monetary surplus first affected the stock markets, then raw materials, and then transportation and wholesale trade. When this process reached its last phase, services and retail trade, the war broke out.

This temporal coincidence has generated quite a bit of confusion about the source of the problem. In fact, many people seem to have understood that the cause of the cost of living is war, when in reality it is a prior phenomenon. In any case, that doesn’t change the bottom line: living today is much more expensive than it was earlier this year.

In the United States, for example, the interannual rate of inflation has not dropped below 7% in any month of the year, with a maximum of 9.06% in June. The problem has also reached the Hispanic world, especially countries with previous monetary imbalances such as Argentina or Venezuela. However, there have also been strong inflationary pressures in Chile, Nicaragua, Colombia, Paraguay, Brazil and Uruguay.

interest rates

To the extent that consumption and investment decline, growth and job creation also moderate

As a consequence of this increase in prices, most of the central banks have decided to reverse their monetary expansion policies. In fact, the measures taken in 2022 have acquired a clearly restrictive bias. These initiatives have been led by the Federal Reserve (FED), as the United States is one of the first major economies to feel the problem of inflation. Other institutions, such as the Bank of England and the European Central Bank (ECB), have ended up joining, with more or less enthusiasm.

Although the measures taken have varied from one country to another, in most cases they have included increases in interest rates. The idea is that, in this way, the growth of credit is limited, and with it, that of money in circulation. In this way, it seeks to moderate the growth of aggregate demand and alleviate the pressure on consumer prices.

The problem is that, as is often the case in these cases, the rise in interest rates has not only had an effect on prices. To the extent that consumption and investment decline, growth and job creation also moderate.

In addition, these measures have considerably worsened the quality of life of many people in debt with variable rate loans, who see how their debts are growing rapidly. Added to this is the fact that there is a certain inflationary inertia and the effects of rate hikes on prices are not immediate.

This means that, in a way, these people suffer the worst of both worlds: they pay higher interest rates, but in the purchase they pay prices that are still inflated by legacy inflation.

Lastly, the Fed rate hikes have also had a profound impact on the prices of other currencies. Let us remember that, by increasing the yield of financial assets in the United States, much capital has been redirected to that country, strengthening the dollar against other currencies.

This phenomenon, which always has a very direct impact on the Hispanic world, has resulted in currency devaluation, deterioration of the balance of payments and an extension to the rest of the continent of rate hikes.

The collapse of the euro

Between January 1 and September 26, 2022, the euro fell 16% against the dollar

Until now, the process just described was relatively common in emerging economies. With low rates at the Fed, investors left the United States to look for more profitability and the receiving countries grew. When rates rose again, capital returned and emerging markets suffered. The novelty is that, this time, something similar has happened in Europe.

What has happened is that the European Central Bank has been especially reluctant to follow the trend set by the FED. In fact, it started the year with interest rates at 0% and did not announce the first increase until the end of July. When it did, the benchmark rate stayed at just 0.5%. By then, that same variable in the United States already exceeded 2%.

During the rest of the year, the ECB continued to apply rate hikes, but always with a significant delay compared to its counterparts in other countries.

The first effect of this decision has been a historic collapse of the value of the euro against the dollar. To give us an idea of ​​the magnitude of this fall, on January 1 of this year, one euro was equivalent to 1.14 dollars. On September 26, the European currency reached its annual minimum of $0.96: a fall of 16%. At that time, the euro was also losing value against the Swiss franc, the Chinese yuan and even the Japanese yen.

In the final months of the year, the ECB announced somewhat more aggressive rate hikes, which brought some calm to the markets and recovered some of the lost ground. Even so, the euro-dollar price continues at lower levels than at the beginning of the year.

The ghost of stagflation

It could reach a context in which the economy does not grow, but prices continue to rise

Given this situation, it is natural to wonder why the ECB has shown such resistance to giving a restrictive turn to monetary policy. And it is interesting to ask ourselves this question, because it can help us understand another of this year’s economic milestones. An issue that, far from being a specifically European issue, is on the agenda of all the governments of the world.

The first reason is a phenomenon that we have already described above: when interest rates rise very quickly, credit contracts. This gives rise to a fall in consumption and investment, which sooner or later has repercussions in less growth and the destruction of jobs. In other words, we can say that the remedy against inflation is usually very bitter for economies, since it deteriorates the context in which the markets operate.

At the same time, raising interest rates makes financing more expensive for families and companies, but also for the State. As we have explained in previous articles, this problem has its origin in the practice of rollover, which consists of the constant renewal of public debt. The problem is especially relevant in economies with more indebted governments, such as those in southern Europe, but also in Latin America.

For this reason, there is a fear that if government financing becomes more expensive, there could be a new sovereign debt crisis like the one in Europe in 2011-2012. An assumption that, together with a scenario of contraction in growth, could give rise to a new recession in many economies.

If we add to this the delay in anti-inflation measures, we could reach a context in which the economy is not growing, but prices continue to rise. A situation that in economics is known as stagflation, and that is usually one of the great fears of the economic authorities, due to the social repercussions that it entails.

This concern allows us to understand why a more aggressive restriction of monetary policy has not been chosen. Central banks have sought to combat inflation, while trying at the same time not to drive economies into recession and not compromise the ability of governments to guarantee public debt. A difficult balance to achieve, but one that will undoubtedly constitute one of the great challenges of the world economy in 2023.

In summary, if the year 2021 had been marked by the post-pandemic recovery and the euphoria of the markets, 2022 has been the year of war and inflation. This opens a new scenario in 2023 full of challenges, where more than ever it will be essential to follow the current economic situation. For this reason, from Economipedia we renew our commitment to continue explaining what is happening in the world economy, and we wish our readers a happy New Year.