PARIS (Reuters) - Inflation, the curse of the 1970s, is staging a comeback, led by sky-high oil prices. This time, the menace is more genuinely global than three decades ago, and this time much of it is "Made in China".
Wary of past errors, Western central banks may well opt for shock therapy -- interest rate rises -- in an effort to prevent prolonged stagflation, the toxic mix of inflation and economic stagnation that followed the oil crises of the 1970s.
Their prospects of success depend at least in part, though, on how willing the rising powers of the developing world are to play the game, above all China, an economy that was shut to the outside world 30 years ago but has now taken it by storm.
While inflation is far higher in faster-growing regions than in the United States and Western Europe, everyone feels the pain because of the globalisation of trade, says Stephen Roach, Asia region chairman of Morgan Stanley.
"The risks of a new stagflation are mounting," he said in an article earlier this month. "Like nearly everything else in the world these days this one is likely to be made in Asia."
Average annual inflation rates in the developing world were about three times those of industrialised economies last year, and that overrun will widen in 2008, according to figures from the International Monetary Fund.
IMF forecasts, published last April and perhaps in need of upward revision, foresee world inflation rising from an average of 3.9 percent for 2007 to 4.7 percent in 2008. Revealingly, the IMF sees the inflation rate nearly doubling to just short of 12 percent in the emerging and developing world, as opposed to rising from 2.2 to 2.6 in advanced economies.
In rich and poor countries, fuel and food prices surges have sparked wave after wave of protests by truckers, taxi drivers, fishermen and farmers demanding government action, increasing fears of political instability and economic downturn.
The only solution, which is drastic, painful and risky, may be for the Group of Seven long-industrialised economies to raise their currency values further by raising interest rates, says Stephen King, chief economist at HSBC.
"We must be cruel to be kind," King says, suggesting what is needed is a "short, sharp, collective interest rate shock".
That would be a U-turn from Western appeals for currency appreciation in China and other emerging market economies to address global imbalances, King says.
But it would, he argues, put the focus on the source of the global inflation problem, overly lax monetary conditions in the emerging world.
This would force emerging market countries to confront the disconnect between their increasing economic maturity and their monetary youth and inexperience, he says.
The risks for the developed countries are the ones everyone is aware of -- that rate rises compound existing downturns in the United States and other countries already weakened by credit crunches or housing slumps, or both, notably Britain.
The underlying assumption is that the G7 countries take the lead and everyone else more or less follows, which for emerging market economies means abandoning cheap-currency policies that do little or nothing to combat inflation or overheating.
What's true for China and other Asian economies is even more so for Saudi Arabia and its oil-exporting neighbours in the Gulf region, where currency pegs to the dollar cause double-trouble, says Harvard economics professor Martin Feldstein.
Firstly, because of dollar-pegging, Saudi Arabia was forced to more or less match U.S. interest rate cuts recently when what it needed was the reverse to combat overheating in the economy.
Secondly, given that oil is paid for in dollars, weakness in the dollar exchange rate means the likes of Saudi Arabia end up "importing" inflation when they are forced to pay more for goods bought in foreign markets other than the United States.
"Emerging market countries around the world have been able to pursue successful anti-inflationary policies after abandoning their dollar pegs," Feldstein said in an article published last week.
Economists at Standard Chartered bank share the belief that China is now more the problem than the help it once was when it comes to keeping a lid on global inflation. Unlike HSBC's King, however, they suggest rapid rate rises might be foolish.
"Two wrongs don't make a right," the bank's economists wrote in a research report. "If central banks should have been tighter in recent high-growth years, that's not a reason to be tighter now in weaker growth times," the say.
So far at least, overall inflation is high in Europe and the United States but nothing like in the 1970s and nothing like in the emerging market countries now. Growth on the other hand is strong in emerging market countries and weak or weakening in the more mature economies.
The dollar's weakness and rising consumption in developing countries have driven fuel and food prices sharply higher. But there is little sign so far of the central banker's worst nightmare -- huge pay rises that cause a wage-price spiral -- materialising, at least in the industrialised world, say the Standard Chartered team.
They believe it is probably now time that companies took the hit instead of passing on the bill to consumers who are finding the pinch from food and fuel bills.
In any case, the near-sevenfold rise in world oil prices in as many years appears to be triggering a rate of inflation in transport prices that will cost China as dearly as everyone else ultimately, judging by another research report.
Nowadays, it costs $8,000 (4,000 pounds) to send a standard container by ship from Shanghai to the U.S. east coast, a four week trip that cost $3,000 back in the year 2000, according to economists at CIBC bank, Jeff Rubin and Benjamin Tal.
Faster ships have made the world a smaller place for trade in recent years but in the past 15 years increases in speed have doubled the amount of fuel needed to get goods to their destination.
"Globalisation is reversible," say the economists, who estimated that soaring transport costs have wiped out the cost savings produced by the elimination of trade tariffs over the last 30 years.
The two oil crisis of the mid- and end-'70s were triggered by MidEast supply cuts, whereas the latest spike is largely attributed to soaring demand in countries such as China, whose rise as the factory of the world passed a turning point with membership of the World Trade Organisation in 2001, shortly before the latest upward trend in crude prices took hold.
Whatever the source of the latest crisis, an emergency meeting of oil producing and consuming countries at the weekend offered little prospect of a quick fix to record crude prices and the price of oil.
In the meantime, while the European Central Bank threatens to raise interest rates in the euro zone as early as next month, U.S. central bank chief Ben Bernanke may still be hoping he will not have to administer such tough medicine so fast to an economy battered by an unfinished housing slump.
When he graduated from Harvard university in 1975, world oil prices were soaring and U.S. inflation headed for 10 percent.
Cars were queuing up for fuel rations back then, but not now, Bernanke told Harvard graduates last week.
"The overall inflation rate has averaged 3-1/2 percent over the past four quarters, significantly higher than we would like but much less than the double-digit rates that inflation reached in the mid-1970s and again in 1980," he said.