Sharing my latest entry to our internal log as this week's main message:8/2/2021
Interesting; reading all the commentary around the economy, inflation, financial markets, etc. Credible macro players who sit in the deflation camp are understandably pounding their chests with “see, the reflation trade is already dead” as the 10-year yield sinks below 1.2%.
I’m frankly unimpressed by the seeming faith in the signals from a bond market that, pragmatically-speaking, the Fed has -- for the time being -- effective control over. The deflationists’ outright dismissal of what I view as the reality of the Fed’s puppeteering of the bond market would be akin to me saying that structural inflation is here, and it’s absolutely, unequivocally here to stay for, say, the next 10 years, no bones about it!
Well, that would be utter arrogance coming from someone who's lived markets long enough to have been humbled time and again to the point where I absolutely, unequivocally know one thing, and one thing only; that -- while we can work very hard to capture and dissect data and, in the process, formulate actionable theses around our view of probabilities -- the economy and the markets are inherently unpredictable.
So, no, in my humble view we’re not on the precipice of a resumption of the same old disinflationary environment we’ve lived these past few decades -- characterized by, among other things, easy global trade (read cheap foreign goods and labor), technological advancement and a monetary policy regime that ultimately accomplished little more than the inflating of asset bubbles and the fomenting of wealth inequality in the process.
In any event, the deflationist narrative fundamentally ignores the deeper realities that I bullet-pointed in our own inflation narrative (excerpt below). Again, it’s not that I am wedded to the notion that structural inflation will be a real thing going forward -- I remain open to all possibilities -- it’s that I see developments that take us markedly away from much of what has kept inflation at bay these past few decades. And I fully recognize that other than what would amount to -- at this juncture -- a true economic miracle, or some form of a debt jubilee, inflation virtually has to trend notably higher for the next several years if the powers that be are to tackle the federal debt bubble that now exceeds 120% of GDP:
“...amid, and despite, what may be a period of relatively low velocity of money, heavy debt burdens, and, we presume, further technological advancement -- I see increasing odds that we're at long last on the cusp of something meaningful (but not 1970s meaningful, mind you) with regard to structural inflation risk:
- Increasing populism (a serious headwind for global trade -- in both goods and labor).
- A continual stimulating of the economy via fiscal policy (facilitated by easy monetary policy) -- demanded by a politically-powerful populist movement.
- China maturing into a service-oriented, consumer-driven economy (not as much the provider of cheap labor and goods to the outside world).
- The Fed's fear of bursting present asset and debt bubbles were it to implement traditional inflation-fighting measures -- thus willing to fall notably behind the inflation curve well into the foreseeable future. In fact, I personally place better than 50/50 odds that if indeed a long-term trend of rising inflation emerges, that the Fed will revert to yield curve control (buying up the price (down the yield) of longer-term treasuries) to control lending rates that, were they allowed to rise, would themselves produce a headwind to rising inflation.
- The trillions of dollar-denominated debt sitting on foreign corporate balance sheets inspiring an active campaign by the Fed to keep the dollar at bay, in an effort to avert what could otherwise turn into messy currency crises.
- The reticence of producers in the metals space to aggressively expand capacity despite rising prices: Speaks devastation they experienced post the ‘08 to ‘11 China building boom.
- The political/environmental headwinds for fossil fuel producers to expand capacity.
Now, all that said, before we settle into that structurally rising inflation scenario (if indeed that's where we're headed), I look for a notable calming of the thrust we're presently experiencing -- as the worst of the production bottlenecks subside -- inspiring a chorus of I-TOLD-YOU-SOs from the "it's transitory" camp.”
- Inflation being the US’s historically-preferred mechanism for reducing heavy federal debt burdens.
Thanks for reading!