The fear that haunts the markets – is inflation returning? | Inflation

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The specter of inflation put investors on the run last week. With no manual to guide them on how economies will behave in a pandemic, markets are struggling to predict whether a post-Covid recovery will be so strong it will lead to a spending tidal wave that will push up the prices.

Investors are frightened as rising inflation, which threatens investment and consumer spending, should be tamed by rising interest rates currently at their lowest – and that would be anathema to the markets and an investment industry. companies that have gotten used to cheap money.

At the start of last week, stock markets panicked when figures suggested inflation in the United States had already started to take off, adding to fears it could take hold in the United Kingdom. By the close of markets on Friday, the panic seemed to have subsided and stocks had risen. But the debate on whether inflation will take root in the world has started. What is the way forward?

Why inflation could rise

A surge in consumer spending British households have saved around £ 160 billion over the past 14 months, according to the National Institute for Economic and Social Research (NIESR). Up to 20% of that could be spent before the end of the year, according to Bank of England chief economist Andy Haldane.

The official central bank line is that households will spend closer to 5%, but that could still mean too much money to search for too little property, especially when Brexit has combined with the pandemic to restrict imports and limit what is available in stores. .

Higher commodity prices In 2010, while the world was still dealing with the fallout from the financial crash, the price of oil soared above $ 120 a barrel. With the price of copper and other commodities following, the UK’s inflation rate hit 5.2% in 2011, more than double the Bank of England’s 2% target. Immediately after the first foreclosure in March 2020, the cost of Brent per barrel fell to nearly $ 20. Last week it was back to $ 70. There was also a large rally in metals prices, with copper hitting record levels this month along with iron ore; but in recent days, they have retreated slightly.

A job mismatch The pandemic has accelerated several trends in the workplace and in consumer spending. Working from home means that better broadband is part of the new demands of life. BT is one of hundreds of companies to say it is in the process of recruiting now that most people are vaccinated and Covid restrictions are expected to almost disappear in June. For a while at least, the lack of qualified personnel means that a future BT engineer could increase his salary. If this happens throughout the economy, wages will rise and the extra income will fuel the savings madness, further increasing the pressure on prices.

Government stimulus The UK government has so far spent nearly £ 300 billion to save households and businesses from the pandemic. The Bank of England injected an additional £ 150bn into the economy last November ahead of the third lockdown, bringing its main stimulus package – known as quantitative easing – to £ 895bn. Between them, they prepared the economy for a rapid recovery.

But while the bank has shown no tendency to abandon its coinage printing in an effort to secure the recovery, the government expects to cut budgets next year. It could also start raising taxes, effectively removing a key element of growth from the economic equation. This contrasts with the Biden administration in the United States, which is expected to add to its existing $ 1.9 billion stimulus package, and the eurozone, which has started distributing € 750 billion, mostly in southern Europe.

Long term problems There are several reasons why the UK and the global economy could suffer from a long-term mismatch of supply and demand, pushing up prices. A green technology revolution will require an overhaul of most industrial processes and increase the demand for metals such as copper and cobalt. This could keep the prices of many products, including electric cars, on the rise for years to come.

A decline in the number of working-age adults as the population ages (excluding the potential for immigration) will force employers to raise wages, stepping up pressure to demand higher prices.

The pessimistic point of view

Haldane, who is set to leave the bank this summer after 32 years, says that if Threadneedle Street’s forecast of 7.25% GDP growth turns out to be correct, an inflationary spiral could develop and take hold, as has happened. produced in the 1970s. In an article last week, he said that the likelihood of a spending spree, rising commodity prices and job mismatches might convince companies that they don’t. had no choice but to pass the additional costs on to consumers.

“This economic momentum, if sustained, will exert persistent upward pressure on prices, risking a more prolonged – and damaging – period of above target inflation. This is not a risk that can be left behind if the inflation genius does not want to escape us once again, ”he wrote in the Daily mail.

There are members of the board of directors of the Federal Reserve who agree and are likely to say so.

Adam Posen, director of the Peterson Institute in Washington and a former Bank of England policy maker, also agrees that there is a risk of inflation that could get out of hand in the United States as a result of the Biden program. Robert Shapiro, head of Washington-based consulting firm Sonecon and government adviser in Bill Clinton’s second term, says, “You can’t throw so much money into the US economy without getting some inflation.”

Joe Biden gestures as he delivers a speech, wearing a dark blue suit and tie
Joe Biden is determined to spend big to restart the US economy. Photograph: Evan Vucci / AP

But neither thinks that after a decade of policies aimed at raising inflation that only succeeded in keeping prices from falling, a brief surge in price increases over the course of the next year is a problem.

The optimistic view

Neil Shearing, chief economist at consulting firm Capital Economics, said one of the difficulties the markets face is picking out the complex inflation data for the past year. One example is US air fares, which have fallen sharply as the Trump administration kept empty planes in the air, unlike the UK and European countries, which shut down the airline industry. Air fares have rebounded in the United States and, a year later, that increase is fueling the Consumer Price Index; but in Europe, for the purposes of economic data over the past year, the tariffs have remained the same.

Steven Blitz, chief US economist at consultancy TS Lombard, says that a sustained increase in spending over many years would require banks to be complicit in excessive lending once the savings glut is exhausted – and that is unlikely to happen. not. Another factor emphasizing the short-term nature of the inflation problem, he said, is that China is passing on the prices it paid for raw materials at the height of the pandemic, when freight costs shipping exploded. That too will disappear.

Hande Kucuk, deputy director of NIESR, says the expansion will be brought under control by the uncertainty ahead. These concerns include the number of businesses that will fail once the UK leave program ends; how many people will lose their jobs; and the prospect of new variants of Covid wreaking havoc.

Even inflation skeptics agree that anyone who drives a car in the US, Europe and UK will see that prices at the pump have gone up. Carriers face much higher diesel prices than a year ago. In the 1970s, oil was the economy’s only lubricant, and a rise triggered significant inflationary pressures.

But oil is no longer the influence it once was, and although other commodities are on the rise, all the major central banks – the Bank of England, the US Federal Reserve, the Bank of Japan and the European Central Bank – forecast that, over the medium term, inflation will stay near or below the 2% target they share. This clear message means that interest rate hikes are on the back burner for many years.

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