David Jane
Premier Miton Macro Thematic Multi Asset Team
For information purposes only. The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
Inflation began coming down, at least in the US, in the late summer to early autumn. This coincided with the equity market lows, the question remains however, how far is it set to fall and for how long.
At present workers appear to have a very strong negotiating position, as current levels of demand and a reducing labour force mean that labour shortages persist in most western economies. This means that wages are growing strongly, although in many cases not as fast as CPI (Consumer Price Index) inflation. This will only change in the case that the economy slows materially, to the point that there is excess labour again. Basically, unemployment will rise enough to ease wage cost inflation in the event of a recession.
Despite rising prices, consumers balance sheets are still strong, at least in the US, where most mortgages are long term and on fixed rates. One possible, disinflationary impact might be a material fall in house prices and rents, as higher interest rates bite into house prices.
Canned economic heat
In the case of government spending, much of this is inflation linked, such as health and social care benefits. These are particularly difficult to reduce in real terms, particularly as basic necessities are increasing in price faster than overall inflation. At the same time the heavily unionised public sector workforce is a substantial part of the voting public and elections are looming. In the UK measures to address the ‘cost of living crisis’ are unlikely to address its causes, but only address its effects on targeted groups. The cause is an overheated economy, as a consequence of excessive stimulus from both the central banks and governments during the lockdowns.
Energy is having a disinflationary effect, at least at present, although this will reduce as the year goes on. Policy in the West remains highly supportive of high energy prices, both in the form of fossil fuel restrictions and subsidies for renewables. The same can be said for most raw materials.
No pain, no gain?
We are still of the view that the only plausible case for sustained low inflation in the long run involves a material amount of economic pain, something that recent policy action suggests is not a realistic option at least for now. In our view, central banks have to continue to tighten aggressively and stay tighter for much longer than markets presume.
We retain our stance that economies may slow materially, but insufficiently to fully drive inflation out of the system until consumers real incomes and balance sheets are sufficiently reduced to have a material impact on demand. Given the conflicting actions of governments and central banks this may take years of stop-start economics. This supports our ongoing thesis of the ‘rock in the pond’ economy of ever decreasing ripples until the inflationary impact of lockdowns has worked its way through.
We are positioned for a near term economic slowdown but retain a longer term bias towards assets that might benefit from inflation.
