Up, Up and Away ...

In fact, wages are skyrocketing across the board in much of the developing world: most Persian Gulf nations, along with other nations such as India, Egypt, South Africa, Argentina, Venezuela, Russia, Turkey, Indonesia, Pakistan, Hungary, Latvia and many more, have seen double-digit wage increases this year. Meanwhile, euro-zone wage inflation has accelerated to 3.3 percent in early 2008, the highest rate in four years.

Will such increases lead to a broader, 1970s-style wage-price spiral? Some say yes. Companies like U. S. Steel are soaring right now, because rising transport costs are making Chinese rivals less competitive in the U.S. market. As a similar shock hits industries from batteries to furniture, bringing production home, it will lead to demands for higher wages from U.S. and European workers, says CIBC World Markets chief economist Jeff Rubin. "Inflation is going to make the world rounder," he says. Others are not so sure, in large part because the declining clout of Western labor unions makes them less powerful advocates for higher wages. "Expectations are completely different today than in the 1970s, when left-wing policies were in ascendance," says Schmieding, who attributes recent European wage increases to lower unemployment, not union power.

There is also an opposite argument: that in the West, at least, recession fears will help curb a wage-price spiral. Normally, the dynamic of a spiral is that consumers expect higher prices, so they buy more today to beat the increases, and demand higher wages to cover the prices. Now, however, consumer spending in both the United States and Europe is way down, and certain retail surveys show that people are actually beginning to haggle, Third World style, over goods at their local markets. Meanwhile, a toughening economy makes it difficult for workers to reasonably ask for raises.

It's not clear how inflation will affect global growth, but it won't be pretty. Seminal studies by Stanley Fischer and Robert Barro suggest that the impact really starts to kick in after inflation rises above the range of 5 to 7 percent, and again, the global average is now 5.5 percent. The IMF is predicting that global growth this year will be about 4 percent, a full point lower than last, in large part because of inflationary effects.

All this underscores just how complex the new economic order is. The demand stoked by globalization has created a new class of emerging-market rich who have in turn fueled a new era of global inflation, one with which we must all cope. The way out won't be easy. Already, the tougher global environment is pushing protectionism and insularity. Emerging economies in particular will have to make painful choices between growth and security, decoupling their monetary policies from the West, and cutting back on the massive subsidies that help their people buy food and fuel but distort markets and further stoke global inflation. Some, like Turkey, South Africa and India—countries with dismal public finances, difficult politics and little commodities wealth—may be hit hard by stagflation, which could result in civil unrest.

Many others will simply enter a more volatile and uncertain period of growth. All will have to step carefully to avoid the policy mistakes that led the West to its painful '70s stagflation. One tip: forget the easy-money advice of Alan Greenspan and reread the words of Paul Volcker, the more conservative Fed chief who eventually tamed double-digit inflation in the United States. "What emerging markets need," says Morgan Stanley's Fels, "is their own Volcker to create a recession," and correct the inflationary buildup before things really spiral out of control. So, then, what's needed is thoughtful and measured economic leadership. In that, perhaps, things aren't that much different than they were 30 years ago.

With Andrew Bast in New York

© 2008