Inflation Is Rising, But No Sirens Ahead
After this year’s Secular Forum, PIMCO adopted its New Neutral view: We expect global economies to converge to modest trend growth rates over the next few years. What does The New Neutral mean for inflation risk around the world? Mihir Worah, Chief Investment Officer Real Return and Asset Allocation and head of PIMCO’s real return and multi-asset portfolio management teams, discusses PIMCO’s expectation of low but rising inflation over the next three to five years, and what it means for investors.
What is PIMCO’s secular outlook for global inflation? In a world approaching The New Neutral, is there less inflation risk?
Worah: Over the secular horizon – the next three to five years – we expect global inflation to remain muted overall, as we think there is still a degree of slack in the global economy. Moreover, supply has increased in certain commodities like crude oil and natural gas, and there have been improvements in production of base metals like nickel. While investors should stay vigilant to the possibility of commodity price spikes or other inflation surprises, our secular base case is for inflation to be modestly higher than current levels.
In the developed markets, the U.S. and Europe in particular, inflation is bottoming and poised to move up modestly. We expect inflation in the U.S. to move close to the Federal Reserve’s 2% target, though it is still likely to be relatively low over the secular timeframe. However, we have a slight bias to higher inflation since that is what the Federal Reserve wants – stronger economic growth in the U.S. cannot be achieved without higher inflation.
In Europe as well, we should see aggregate inflation move up from the currently very low 0.7% year-over-year rate to a rate north of 1%. This is still well below the European Central Bank’s (ECB) target, and we expect continued stimulative policy from them.
In emerging markets (EM), inflation is strongly tied to commodity price movements. Therefore, we expect inflation to remain more volatile in EM than in developed markets over the secular horizon. The New Neutral, and its characteristic lower developed market rates, could see portfolio flows into EM contributing to inflation surprises, if central banks waver in their discipline. In China, however, slowing growth and a need to rebalance and even weaken the currency mean that its economy is unlikely to export inflation to other markets such as the U.S.
In a series of interviews, our Chief Investment Officers detail PIMCO’s secular views on factors likely to affect markets and economies over the next three to five years, along with implications for investment strategies. Each issue of the Secular Outlook Series will highlight conclusions from our Secular Forum, including an analysis of a geographic region, asset class or global trend.