Economic turmoil tests G7 ability to respond jointly

Just six months into his tenure, Olaf Scholz is hosting Sunday’s G7 summit at a perilous time for the West as soaring inflation, an energy crisis and the threat of a recession test the ability of the richest economies to take coordinated action.

Economists from all over the world come to the meeting, which was also attended by the leaders of the United States, Great Britain, France, Italy, Japan and Canada. downgrade your growth forecasts and revise their inflation forecasts. Energy and food prices surged after Russia’s invasion of Ukraine in February, and central banks have hiked rates this month by more margins than markets expected.

“It was impossible to imagine, finally, G7 summit that we will face such a situation,” said Holger Schmieding, chief economist at Berenberg Bank. “Things are very bad and could get worse.”

The dire prospects were highlighted last week when Germany took a step closer to gas rationing after a sharp drop in Russian supplies via the Nord Stream 1 gas pipeline.

Scholz said the main goal of the summit, held in the luxury resort of Schloss-Elmau in the Bavarian Alps, was to project unity. The leaders of democracies must show that they are “united like never before”, not only in the fight against [Russian president Vladimir] Putin’s imperialism, but also in the fight against hunger and poverty, health crises and climate change,” the chancellor said on Wednesday in the Bundestag.

Scholz will especially insist on “Marshall Plan” for Ukraine, modeled on the American scheme that financed the post-war reconstruction of Europe. President of Ukraine Volodymyr Zelensky will take part in the summit via video link.

The leaders will also discuss disruptions to global food supplies caused by Russia’s blockade of Ukraine’s Black Sea ports. The G7 had a duty to “prevent a catastrophic famine,” said Scholz, who also invited Indonesia, India, South Africa and Senegal to the summit.

But a common political response may be more difficult to achieve due to the looming macroeconomic threats to the G7 states themselves, the discussion of which will dominate the first day of the summit.

An AS 332 Super Puma helicopter of the German Federal Police Bundespolizei flies over Elmau Castle during flight and security training for the G7 leaders' summit, near Garmisch-Partenkirchen, Germany, June 23, 2022.
An AS 332 Super Puma helicopter of the German Federal Police Bundespolizei flies over Elmau Castle © Wolfgang Rattay / Reuters

Some of the recent developments are seen as out of the leaders’ control: China’s coronavirus policy hurting global supply chains, and the Kremlin’s cuts in gas flows to Europe, which have rocked gas markets and increased the likelihood of a winter energy crisis.

These problems were not caused by the leaders of the G7, but [Chinese president] Xi Jinping and Vladimir Putin,” Schmieding said.

This contrasts with the Covid-19 pandemic, when governments have resorted to massive fiscal support and monetary stimulus to protect businesses during lockdown. Then, in the words of a senior German official, a “simple consensus” was reached on how to respond – “a mock macroeconomic response, namely expansive monetary and fiscal policy.”

“The situation we are in right now is much more difficult, much more difficult,” he added. “This perfectly clear, almost instinctive idea that you are just pursuing an expansionist policy is no longer so obvious.”

This time around, said Pascal Donoghue, president of the euro group of finance ministers, policy makers will have to strike a balance between supporting households most vulnerable to higher energy prices and avoiding inflationary pressures, a task he called “difficult.”

“This is a very difficult task for central banks and governments,” he said on Friday in Brussels. “History shows us that if inflation becomes a multi-year phenomenon at a very high rate, the problems we face with regard to the cost of living only increase.”

The US is in talks with European leaders on how to ease the pressure on energy prices. The focus, officials say, is on ways to prevent G7 restrictions on Russian oil from pushing up oil prices and boosting Putin’s export earnings.

One answer that the US has been pushing for a long time and that will be discussed at Elmau Castle is capping the price of oil paid to Russia. This would require changes to the European ban on insurance against Russian oil supplies: a compromise could allow countries to obtain insurance if they comply with the price ceiling.

But Scholz is cool about the idea. On Friday, he said it would be “useless” if only a few countries respected the oil price cap – it would only work if everyone did it. “[Oil] demand is global,” he said. “And if we can’t get everyone, or almost everyone, on board, it won’t be as effective.”