US drought will lead to inflation and higher food prices, says report

Tuesday, August 21, 2012
By Paul Martin

HSBC warns that central banks are unlikely to raise interest rates to counter higher living costs due to softening labour market

Larry Elliott
Monday 20 August 2012

America’s worst drought in half a century will push up inflation and put a fresh obstacle in the path of the struggling global economy, one of the UK’s leading banks has warned.

Senior global economist at HSBC, Karen Ward, said sharp rises in the cost of wheat, corn and soya beans came when growth was slowing but said the weakness of wage pressure meant there was no need for central banks to raise interest rates in response to a higher cost of living.

Blistering heat in the US has destroyed 45% of the corn and 35% of the soya bean crop in the worst harvest since 1988. Russia and Ukraine have also had poor crop yields. Ward said higher food prices would result.

“This is another dampener for the global economy at a time when the headwinds are already acute,” Ward said. She added that workers were unlikely to press for higher wages to compensate for dearer food at a time when labour markets were softening and this would allow policy makers to ignore the increase in inflation as an external shock.

“Even if prices stabilise at these levels, we are likely to see headline inflation rates rise across the world in the coming months, particularly in the emerging economies where food accounts for a larger proportion of household spending. Latin America is more susceptible than Asia, where rice is the more common staple. So far rice prices remain subdued.

According to the HSBC report, relatively high stocks of grain could be run down to meet demand until new harvests were reaped in unaffected parts of the world. “But much depends on government behaviour. With memories of Haiti’s 2008 food riots and the Arab spring (where high food prices played a part) still fresh, panic buying by governments and/or export bans would only exacerbate the problem and may cause social unrest.”

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