The International Monetary Fund has warned that stubborn inflation could keep interest rates higher for longer than expected, increasing fiscal and financial risks around the world.
Persistently high prices for services — which include haircuts, hotels and restaurants — as well as escalating trade tensions are propping up inflation and raising the prospect that interest rates will stay high for a while yet, the IMF cautioned Tuesday in its latest World Economic Outlook.
The warning highlights that the global economy is not yet in the clear when it comes to inflation, which explains the caution on the part of central banks in cutting interest rates. High borrowing costs, in turn, are prolonging the squeeze on household and business finances.
Last week, Federal Reserve Chair Jerome Powell said central bank officials in the United States needed “greater confidence that inflation is moving sustainably” toward their 2% target before going ahead with the first interest rate cut.
The Bank of England, meanwhile, held off on cutting rates last month even though UK inflation slowed to the central bank’s 2% target in May. However, services inflation came in higher than expected.
The Bank of England emphasized that “monetary policy needs to be restrictive for an extended period of time until the risk of inflation becoming embedded above the 2% target dissipates.”
In its report Tuesday, the IMF said it still expected major central banks to reduce borrowing costs in the second half of the year. It anticipates one cut by the Fed before the end of the year, chief economist Pierre-Olivier Gourinchas told journalists.
The IMF thinks global inflation will slow to 5.9% this year, from 6.7% last year, in line with its forecast in April.
The agency blamed sticky services price inflation — partly driven by higher wages — for “holding up progress” on reducing overall inflation.
“Energy and food price inflation are now almost back to pre-pandemic levels in many countries, while overall inflation is not,” Gourinchas said. “Rising services prices and wages may keep overall inflation higher than desired,” posing a “significant risk” to economic growth, he added.
Tariffs will hurt living standards
The IMF also noted that rising trade tensions “could further raise near-term risks to inflation by increasing the cost of imported goods.”
The US and the European Union have in recent months hiked tariffs on electric cars made in China, driven by concerns that local jobs and strategic industries could be wiped out by cheap Chinese imports. The US has also increased tariffs on a raft of other products from the world’s no. 2 economy, including steel, batteries, semiconductors and critical minerals.
Gourinchas said the “surge in unilateral measures,” including tariffs, was a “key concern” for the IMF.
“If anything, it will distort trade and resource allocation, spur retaliation, weaken growth, diminish living standards and make it harder to coordinate policies that address global challenges, such as the climate transition,” he added.
The IMF sees the global economy expanding 3.2% this year, as it forecast in April. But the agency downgraded its forecast for US growth to 2.6% — 0.1 percentage point lower than projected in April.
The economy encompassing the 20 countries that use the euro is seen expanding by a “modest” 0.9%, 0.1 percentage point higher than predicted in April.
The IMF also made upward revisions to its 2024 growth forecasts for India and China, which it now expects to expand by 7% and 5% respectively — up from forecasts of 6.8% and 4.6% in April. The projected growth in the two countries would account for half of global expansion.
“Asia’s emerging market economies remain the main engine for the global economy,” Gourinchas said.
