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Dear maria, We just published a new blog—please find the full text below. Translations coming soon.  LISTEN: In a new IMF podcast, the IMF's Prachi Mishra, co-author of Chapter 2 of the latest World Economic Outlook, explains that inflation expectations have stayed relatively anchored so far, but there is still much to be concerned about.  Inflation Scares in an Uncharted Recovery   By Francesca Caselli and Prachi Mishra A key question is what combination of events could cause persistently faster price gains The economic recovery has fueled a rapid acceleration in inflation this year for advanced and emerging market economies, driven by firming demand, supply shortages, and rapidly rising commodity prices. We forecast in our latest World Economic Outlook that higher inflation will likely continue in coming months before returning to pre-pandemic levels by mid-2022, though risks of an acceleration do remain. The good news for policymakers is that long-term inflation expectations are well anchored, but economists still disagree about how enduring the upward pressure for prices will ultimately be. Some have said government stimulus may push unemployment rates low enough to boost wages and overheat economies, possibly de-anchoring expectations and resulting in a self-fulfilling inflation spiral. Others estimate that pressures will ultimately be transitory as a one-time surge in spending fades. Inflation Dynamics and Recovering Demand We examine if headline consumer price index inflation has moved in line with unemployment. Although the pandemic period poses many challenges to estimating this relationship, the unprecedented disturbance doesn’t seem to have substantially altered this relationship. Advanced economies are likely to face moderate near-term inflation pressure, with the impact softening over time. Estimates of the relationship between slack, the amount of resources in an economy that aren’t being used, and inflation for emerging markets instead seem to be more sensitive to the inclusion of the pandemic period in the estimation sample. Anchoring Expectations Inflation during the pandemic has been well anchored, according to measures of long-term expectations known as breakevens drawn from government bonds in 14 nations. These closely watched gauges have been stable so far during both the crisis and the recovery, though uncertainty about the outlook remains. A key question is what combination of conditions could cause a persistent spike in inflation, including the possibility that expectations become unanchored and help spark a self-fulfilling upward spiral for prices. Such episodes in the past have been associated with sharp exchange-rate depreciations in emerging markets and have often followed surging fiscal and current account deficits. Longer-term government spending commitments and external shocks could also contribute to expectations becoming de-anchored, especially in economies with central banks that aren’t believed to be able or willing to contain inflation. Moreover, even when expectations are well anchored, a prolonged overshoot of the inflation target that policymakers have set could cause a de-anchoring of expectations. Sectoral Shocks The pandemic has triggered large price movements in some sectors, notably food, transportation, clothing, and communications. Strikingly, the dispersion or variability in prices across sectors has so far remained relatively subdued by recent historical standards, especially compared with the global financial crisis. The reason is relatively smaller and shorter-lived swings in fuel, food, and housing prices post the pandemic, which are the three largest components of consumption baskets, on average. Our forecast is that annual inflation in advanced economies will peak at 3.6 percent on average in the final months of this year before reverting in the first half of 2022 to 2 percent, in line with central bank targets. Emerging markets will see faster increases, reaching 6.8 percent on average then easing to 4 percent. The projections, however, come with considerable uncertainty, and inflation may be elevated for longer. Contributing factors could include surging housing costs and prolonged supply shortages in advanced and developing economies, or food-price pressure and currency depreciations in emerging markets. Food prices around the world jumped by about 40 percent during the pandemic, an especially acute challenge for low-income countries where such purchases make up a big share of consumer spending. Simulations of several extreme risk scenarios show prices could rise significantly faster on continued supply chain disruptions, large commodity price swings, and a de-anchoring of expectations. Policy Implications When expectations become de-anchored, inflation can quickly take off and be costly to rein back in. Ultimately, central bank policy credibility and price expectations are difficult to precisely define, and any assessment of anchoring can’t be decided entirely based on relationships in historical data. Policymakers therefore must walk a fine line between remaining patient in their support for the recovery and being ready to act quickly. Even more importantly, they must establish sound monetary frameworks, including triggers for when they would reduce support for the economy to rein in unwelcome inflation. These thresholds for action could include early signs of de-anchoring inflation expectations, including forward-looking surveys, unsustainable fiscal and current account balances, or sharp currency swings. Case studies show that while strong policy action has often tamed inflation and expectations for it, sound and credible central bank communication also played an especially crucial role in anchoring views. Authorities must be alert to triggers for a perfect storm of price risks that could be individually benign but when combined may lead to significantly more rapid increases than predicted in the IMF’s forecasts. Finally, a key feature of the outlook is that there are significant differences across different economies. Faster inflation in the United States, for example, is projected to help drive the acceleration for advanced economies, though pressures in the euro area and Japan are estimated to remain relatively weak. Glenn Gottselig Managing Editor IMF Blog ggottselig@IMF.org

Dear maria, We just published a new blog—please find the full text below. Translations coming soon.  HAPPENING NOW: Tune in for a conversation between the IMF's Philip Barrett, one of the authors of Chapter 3 of the October 2021 World Economic Outlook, and Brian Cheung of Yahoo Finance. The virtual event starts at 11 a.m. ET, October 6. Why Basic Science Matters for Economic Growth   By Philip Barrett, Niels-Jakob Hansen, Jean-Marc Natal and Diaa Noureldin Public investment in basic research will pay for itself. The pandemic has rolled back decades of economic progress and wrought havoc on public finances. To build back better and fight climate change, sizable public investment needs to be sustainably financed.  Boosting long-term growth—and thereby tax revenue—has rarely felt more pressing.   But what are the drivers of long-term growth? Productivity—the ability to create more outputs with the same inputs—is an important one. In our latest World Economic Outlook, we emphasize the role of innovation in stimulating long-term productivity growth. Surprisingly, productivity growth has been declining for decades in advanced economies despite steady increases in research and development (R&D), a proxy for innovation effort. Our analysis suggests that the composition of R&D matters for growth. We find that basic scientific research affects more sectors, in more countries and for a longer time than applied research (commercially oriented R&D by firms), and that for emerging market and developing economies, access to foreign research is especially important. Easy technology transfer, cross-border scientific collaboration and policies that fund basic research can foster the kind of innovation we need for long-term growth. Inventions draw on basic scientific knowledge While applied research is important to bring innovations to market, basic research expands the knowledge base needed for breakthrough scientific progress. A striking example is the development of COVID-19 vaccines, which in addition to saving millions of lives has helped bring forward the reopening of many economies, potentially injecting trillions into the global economy. Like other major innovations, scientists drew on decades of accumulated knowledge in different fields to develop the mRNA vaccines.  Basic research is not tied to a particular product or country and can be combined in unpredictable ways and used in different fields. This means that it spreads more widely and remains relevant for a longer time than applied knowledge. This is evident from the difference in citations between scientific articles used for basic research, and patents (applied research). Citations for scientific articles peak at about eight years versus three years for patents. Spillovers are important for emerging markets and developing economies While the bulk of basic research is conducted in advanced economies, our analysis suggests that knowledge transfer between countries is an important driver of innovation, especially in emerging market and developing economies. Emerging market and developing economies rely much more on foreign than homegrown research (basic and applied) for innovation and growth. In countries where education systems are strong and financial markets deep, the estimated effect of foreign technology adoption on productivity growth—through trade, foreign direct investment or learning-by-doing—is particularly large. As such, emerging market and developing economies may find that policies to adapt foreign knowledge to local conditions are a better avenue for development than investing directly in homegrown basic research. We gauge this by looking at data on research stocks—measures of accumulated knowledge through research expenditure. As the chart shows, a 1-percentage-point increase in foreign basic knowledge increases annual patenting in emerging market and developing economies by around 0.9 percentage point more than in advanced economies. Innovation is a key driver of productivity growth Why does patenting matter? It’s a proxy for measuring innovation. An increase in the stock of patents by 1 percent can increase productivity per worker by 0.04 percent. That may not sound like much, but it adds up. Small increases over time improve living standards. We estimate that a 10 percent permanent increase in the stock of a country’s own basic research can increase productivity by 0.3 percent. The impact of the same increase in the stock of foreign basic research is larger. Productivity increases by 0.6 percent. Because these are average numbers only, the impact on emerging markets and developing economies is likely to be even bigger. Basic science also plays a larger role in green innovation (including renewables) than in dirty technologies (such as gas turbines), suggesting that policies to boost basic research can help tackle climate change. Policies for a more buoyant and inclusive future Because private firms can only capture a small part of the uncertain financial reward of engaging in basic research, they tend to underinvest in it, providing a strong case for public policy intervention. But designing the right policies—including determining how you fund research—can be tricky. For example, funding basic research only at universities and public labs could be inefficient. Potentially important synergies between the private and public sector would be lost. It may also be difficult to disentangle basic and applied private research for the sake of subsidizing only the former. Our analysis shows that an implementable hybrid policy that doubles subsidies to private research (basic and applied alike) and boosts public research expenditure by a third could increase productivity growth in advanced economies by 0.2 percentage point a year. Better targeting of subsidies to basic research and closer public‑private cooperation could boost this even further, at lower cost for public finances. These investments would start to pay for themselves within about a decade and would have a sizeable impact on incomes. We estimate that per capita incomes would be about 12 percent higher than they are now had these investments been made between 1960 and 2018. Finally, because of important spillovers to emerging markets, it is also key to ensure the free flow of ideas and collaboration across borders.  Glenn Gottselig Managing Editor IMF Blog ggottselig@IMF.org

Prachi Mishra on Inflation: Navigating Uncharted Territory October 6, 2021 Inflation has not been much of a concern since the 70s when exogenous oil shocks were widely seen to have caused the phenomenon known as stagflation. But given the uncertain nature of the pandemic recovery, inflation is now on the rise and once again on everyone's mind. Analysis in the latest World Economic Outlook explores today's inflation landscape and finds we're in uncharted territory. Prachi Mishra is an Advisor in the IMF Research Department and coauthor of the study. In this podcast, she says while inflation expectations have stayed relatively anchored so far, there is still much to be concerned about. Listen to the Podcast Read the Transcript Read the Blog   ***** Thanks for listening to the podcast. We're always looking to improve your experience so let us know if you have any suggestions! Send your comments to me at bedwards2@imf.org. Bruce Edwards Producer, IMF Podcasts   Connect on Social