With Inflation Accelerating Around the World, Will the United States be Next?

Inflation is now thoroughly entrenched in India's economy, and some analysts fear that the United States could suffer the same fate if adjustments to monetary policy aren't made soon.

India's wholesale price index-based inflation rate in February accelerated to 9.89% from a year earlier. That was the fastest pace in 16 months, blowing past the Reserve Bank of India's (RBI) estimate for an 8.5% inflation rate at the end of March.

Soaring food prices were the primary driver of inflation. An index measuring wholesale prices of lentils, rice, vegetables and other food articles compiled by the commerce ministry rose 16.3% in the week ended March 6 from a year earlier after a 17.81% gain the previous week.

The surge in prices forced the RBI to raise interest rates Friday. The central bank increased its benchmark reverse repurchase rate to 3.5% from a record low 3.25% and the repurchase rate to 5% from 4.75%.

"Anchoring inflation expectations and containing overall inflation have become imperative," the RBI said in a statement. "As liquidity in the banking system will remain adequate, credit expansion for sustaining the recovery will not be affected."

However, many analysts are pointing fingers at India's central bank for leaving rates so low in the first place.

"The policy authorities have fallen significantly behind the curve and need to act much more aggressively than they have so far to clamp down on underlying inflation," Robert Prior-Wandesforde, a Singapore-based economist at HSBC Holdings PLC (NYSE ADR: HBC), told Bloomberg. "The Indian economy is further advanced in the economic cycle than most people believe."

India's economy could grow by 8.2% in the next fiscal year, compared to 7.2% in the year to March 31, according to the country's finance ministry. That makes India the second fastest major economy in the world behind China.

China's gross domestic product (GDP) expanded by 8.7% last year, and will likely exceed Beijing's target of 8% growth this year. However, China's economy is quickly becoming a victim of its own fast-paced growth.

China said last week that consumer prices jumped to a 16-month high of 2.7% in February, up from 1.5% in January and dangerously close to the nation's 3% target.

In China, as in India, the central bank is rushing to cool prices. The People's Bank of China (BOC) in January drained a net $20.1 billion (137 billion yuan) from the money market through its open-market operations. And most analysts believe an interest hike is imminent.

Meanwhile, the U.S. economy - which is not growing as fast as those of China and India - is still expanding faster than analysts anticipated, and it too could soon find itself fending off entrenched inflationary pressures.

Wholesale prices were down a seasonally adjusted 0.6% in February, the Labor Department reported Wednesday, a day after the Fed's one-day policy meeting where it reiterated the need to encourage economic growth through low interest rates.

Proof of tame inflation buys the Fed more time in deciding when to continue with its "exit strategy" and pull the trigger on a rate hike.

However, Money Morning Contributing Editor Martin Hutchinson says that's a mistake.

"Inflation isn't contagious," says Hutchinson, "unless of course the whole world has made the same economic mistake, in excessive money creation and budget deficits. Thus currently, it's contagious!"

"If the Fed is still going to be blathering on about deflation in a year in which inflation soars past 7%, we're in trouble," he added. "Unfortunately, it looks like that's the way it's going to be unless [Federal Reserve Governor Peter] Diamond turns out to be a secret Paul Volcker clone."

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