Events in Egyptare not the only risk to the economic recovery—confidence about sovereign debt and slowing growth in Japan and Europe already pose real risks. And stagflation is peeping over the horizon.
Before the recent events in Tunisia, Egypt and elsewhere, oil and commodities prices were exhibiting a lot of upward pressure and unemployment remained stubbornly high.
Rising commodity prices in 2011 already had the potential to push up other CPI components and slow growth simultaneously—consumer confidence, as witnessed by the housing market, remains tenuous.
China is subsidizing imports of oil and other commodities—using the dollars it gets from currency market intervention—to moderate the effects of commodity price increases on its domestic gasoline and food prices.
This pushes the price adjustments on the rest of the world—including the United States—and rising prices for food are hitting the poorer countries in the Middle East (those without oil) and Africa much harder than in the developed world and Asia, and contributing to social unrest and political risk.
Friday's stock market reaction to Egypt may not have been founded in strong fundamentals—Egypt is not a big economy and the Suez Canal and Suez-Mediterranean Pipeline may not yet be much affected by the protests—but the market reaction indicates broader risks (investor fears).
Social unrest could easily spread throughout the Middle East and irrational perceptions of the U.S. role in Egypt and elsewhere could cause regimes in places like Iran and the Gulf to do dumb things—like tighten the screws on oil.
Bottom line: we could see crude at $120 a barrel as quick as you can say Peter's Bow Tie, and bang gas is $4.00 a gallon—that's a recovery buster. Remember every $10 a barrel translates into 23.8 cents a gallon.
Stagflation? That will do it for sure.
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Peter Morici is a professor at the Smith School of Business, University of Maryland, and former Chief Economist at the U.S. International Trade Commission.