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Inflating from south and east

Ian Campbell 

Global economy: The world looks very different from down under. While the US Federal Reserve is trying to conjure up growth and inflation, Australia is worrying about an excess of both. The Reserve Bank of Australia sees "faster than trend" global growth and "very high" prices for Australia's commodity exports. That is why the central bank made its first interest rate increase in six months today. Investors should beware. The West's cheap money is pumping up global growth and inflation, starting with Australia and the East, but likely to turn up soon closer to home.

The world, unquestionably, is split. Australia is on its faster side. The RBA began raising its benchmark interest rate in October 2009 but stopped in May amid concerns about the impact of crisis in the euro periphery and the prospect of a slowdown in China. But its concerns about the latter have now "lessened", and commodity prices have gone up. Instead, what the RBA fears is a "large expansionary shock" that could drive up Australian inflation.

In the West, the big worry remains the deflationary shock from the burst house price bubble. The fresh round of money printing the Fed seems certain to launch on Wednesday will attempt to draw buyers into Treasuries and other "safe" assets, driving their yields down still lower. But if a global and US recovery is coming, that bait looks more and more poisonous. And recovery may indeed be approaching. In US manufacturing, output has now expanded for 17 months and employment has been growing for 11 months.

Forgotten in the focus on pumping up America is the reality of a global upturn led by Asia. That revival may have suffered a summer soft patch but it looks to be getting over it, and spreading wider. German business confidence rose to its highest since 2007 last month, when manufacturing in the euro zone as a whole also picked up. India, too, raised interest rates on Tuesday; inflation there is 8.6 percent.

Does the world need more money sloshing around? No is probably the answer. But it's almost certain to come - otherwise markets will tank - and may be followed sooner than investors think by accelerating global growth and rising inflation. For bond investors lured by quantitative easing that could come as quite a nasty surprise.

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First Published: Wed, November 03 2010. 00:22 IST