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Call me crazy. You'll probably be right to do so. Here are all of the vague and unscientific reasons why I think inflation is about to disappear from the front pages.
Doing this as a list of bullet points would be boring. So let's start with the contrarian indicator that tipped my brain over the edge 👇
Never doubt the power of the magazine cover. Bitcoin just completed a 60%+ rally from those lows... 👇
But it's far easier to speculate when a trend has run its course in markets than in the economy. Emotions run hotter and colder. Extremes are easier to identify.
Full disclosure: This inflation magazine cover has fed right into my confirmation bias. I've been looking around and trying to think ahead (always a dangerous thing).
Before the latest rounds of economic data painted the picture of a re-accelerating economy, inflation seemed to be coming down, and the economy was clearly slowing.
Central banks were thinking about pausing. We saw disinflation in the goods sector, retail inventories still pretty healthy (maybe some discounting required to clear stock), less credit card binge-buying in December... 👇
People were still spending, but perhaps at more sustainable levels. a reasonably balanced economy.
Then the trifecta of US NFP's, CPI & retail sales data came in and people lost their minds. That narrative went right out the window. THIS BABY IS RUNNING HOT.
Now the Goldilocks/no landing scenario is taking centre stage, and central banks are bricking it. The hawks have been out in force this week. Bullard and Mester both said they fancied 50bps at the last meeting (but they're non-voters).
At the ECB, Schnabel's joined the hawk chorus (do hawks sing or screech?) 👇
This rate-hiking cycle is quite unusual due to its speed and the synchronicity across many major economies. There is a lot of uncertainty about the transmission process and time lags, and this is precisely why we need to look so carefully at the incoming data.
There are reasons to believe that transmission may be weaker than in previous episodes [this time is different?]. We have seen a notable shift from variable towards fixed rates in mortgages. We have also seen a shift towards longer maturities in the bond market. In addition, our surveys suggest that firms see an urgency to invest in digital and green technologies.
And then we have the very strong labour market, which means that the usual transmission through a decline in employment may not work in the same way [this time is different?].
All these factors would suggest that there could be a lower sensitivity of aggregate demand to changes in interest rates. We may have to act more forcefully if transmission turns out to be weaker.
All of the points made here are valid. But I wonder if we're seeing the opposite human error from the 'transitory' period. Back then, central banks were arguably too patient and allowed inflation to take hold.
There's a danger that they're not being patient enough in allowing inflation to come down without prompting a recession.
I'm not arguing that either path is/was the right one. Central banks can't really afford to be overly pragmatic when inflation is so far from their targets.
Every decision they make will be a policy error with the gift of 20/20 hindsight.
It's more the case that a lot of the supply side issues that fuelled the first wave of inflation are now roughly speaking, resolved. The excesses on the demand side have also been trimmed.
The US consumer is nicely indebted again... 👇
And the latest report on household debt and credit is titled Total Household Debt Reaches $16.90 trillion in Q4 2022; Mortgage and Auto Loan Growth Slows
Delinquencies are ticking higher too 👇
Nothing extraordinary, nothing too concerning for now, but where's the next wave of consumption power going to come from? Debts already high and the marginal cost of servicing/renewing that debt is rising.
Which doesn't mean disaster. Goldman's call back in November that real wage increases and a bump in social security benefits could give consumption a boost looks solid so far 👇
Incomes up, inflation down. More on that here 👇
We're now pricing in a terminal rate of 5.3% with just 18bps of easing by January 2024 (i.e. not even a full rate cut) 👇
While this might be entirely accurate and correct pricing, it's bound to weigh on the economy. Which is of course, the entire point.
And, over the past two days, we've seen both US & German PPI come in higher than expected. If the consumer is starting to push back against higher prices, yet producers are resisting price cuts, what does that mean for corporate profits?
Throwing this in from Bowman, a 2023 voter.
We have no idea what's going on, inflation's still too high, unemployment's low. At least she's honest...
All of which is to say, even though inflation may well persist above the 2% targets, I think the story is basically done as a dominant theme.
I think the odds favour an imminent shift in market focus to growth concerns. I don't trust the latest data. Central banks won't relent, people will remember that Goldilocks is just a fairytale and inflation will become yesterday's news.
A bit depressing, so let's end on a positive. Everyone loves a bargain! 👇
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