EXPLAINER: How is inflation hitting low-income households in developing nations?

by Beatrice Tridimas | @bea_trid | Thomson Reuters Foundation
Thursday, 17 February 2022 13:04 GMT

A vendor holds a banknote at an outdoor market in Mexico City, Mexico January 22, 2022. REUTERS/Luis Cortes

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Developed markets are increasingly concerned about inflation, but what’s the case for emerging economies?

LONDON, Feb 17 (Thomson Reuters Foundation) - As consumers from Britain to the United States feel the pinch of the highest inflation in decades, rising food and energy costs are squeezing household budgets in developing economies, too.

U.S. annual inflation clocked its highest rate in 40 years last month, official data showed last week, while inflation in Britain reached a 30-year high of 6.2%.

But as skyrocketing food and fuel costs hit the poorest people in wealthy countries, how are developing economies being affected by an inflationary spike sparked by higher energy prices and supply bottlenecks linked to COVID-19?

What is the picture in big developing economies?

In contrast to rich countries, the picture is more mixed, depending on local factors, according to William Jackson, chief emerging markets economist at Capital Economics consultancy.

In Turkey, for example, inflation hit 48.7% in January, with the lira's crash last year seen as the principal cause.

But in other large emerging markets, such as Brazil, Russia and Mexico, consumers are seeing outgoings rise quickly due partly to the impact of higher global energy prices.

They reported annual inflation last year of 10%, 8.4% and 7.4%, respectively.

But not all big emerging markets have seen a pronounced increase in consumer prices due to supply bottlenecks linked to the pandemic, notably China, where inflation is running at 1.5%.

"Goods shortages haven't had the same effect and, in China's case, it helps that it's a global manufacturing powerhouse," Jackson told the Thomson Reuters Foundation.

"A lot of the supplies concentrate there so it's easier for manufacturers to secure those supplies."

How does inflation affect emerging economies?

In countries where food represents a larger part of the inflation basket, rising prices force low-income consumers to tighten their belts - crimping spending on other goods and slowing economic growth.

"It looks like in those countries with high inflation, consumer spending has weakened because household spending power has taken a hit from rising prices," Jackson said.

"And you've generally seen much more aggressive moves to tighten monetary policy."

Several emerging economies, such as Brazil and Russia, have taken action to keep inflation in check by raising interest rates, a measure that puts a further squeeze on consumers by raising borrowing costs.

"(High interest rates) make it much more expensive to service debt and to take out new loans which then weighs on investments, so it's a big headwind to economic growth," added Jackson.

What does high inflation mean for household expenses?

In emerging economies, energy and food make up a larger proportion of the household budget.

Lower-income families are therefore more stretched by rising prices, as a greater proportion of their household income is spent on food and energy.

In some countries, such as Turkey and Brazil, the minimum wage has been raised to help lower-income families cope.

"What you see, though, in countries where the recoveries are weaker and the wage growth isn't strong, is that it's led to a big erosion of spending power," said Jackson.

But he cautioned that repeated wage hikes, while bolstering growth, can feed into an inflationary cycle - in which everyone involved in setting prices and wages assumes persistent increases.

Will inflation keep accelerating?

Inflationary pressures should ease over the coming year, according to the International Monetary Fund (IMF), which sees rates cooling to below 5% for most emerging economies.

In Turkey, inflation is expected to slow to about 15% while Brazil is expected to see it moderate to just over 5% over the year ahead.

However, the IMF warned in January that inflation could persist longer than originally expected, as supply chain disruptions continue into 2022.

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(Reporting by Beatrice Tridimas @bea_trid; Editing by Helen Popper and Hugo Greenhalgh and Lyndsay Griffiths. Please credit the Thomson Reuters Foundation, the charitable arm of Thomson Reuters, which covers the lives of people around the world who struggle to live freely or fairly. Visit http://news.trust.org)