The Weather Is Not Good: Let's Stay Covered!
16 July 2021
One of the big topics in macroeconomic news is inflation.
To be perfectly honest, this is not our primary expertise but the very good the very good quarterly review by Hoisington Investment Management (an investment firm specializing in long-term US interest rate strategies since 1980) sheds some light on the situation.
When the latest US figures were published on July 13, inflation came out at 5.4%, which is substantially higher than what the markets and economists were expecting (the consensus was around 4.9%).
This could be a problem in the long run: if the inflation rate continues to be higher than the return on risk-free assets (around 1.4% in the US), the money in our bank accounts will lose purchasing power. The big question of the moment is therefore what will the Fed do? Knowing that the equation is not simple because a rapid rise in interest rates would not be good news for stock market indices (the higher the risk-free rate, the lower the current value of companies).
In contrast to the market - which fears a rise in rates - Hoisington IM explains that we should not be afraid of inflation at this level, as it is only transitory. Unfortunately, the situation is not rosy: they consider that the United States is in such a critical debt situation that economic growth will be absolutely unsustainable in the long term. The massive injections of liquidity by central banks are no longer sufficient to "get the machine going again" (we will speak of a liquidity trap, in a situation similar to that of Japan). Thus, future growth rates are likely to be low, along with much less galloping inflation.
To conclude: the economic future is uncertain and it is very complicated to predict what may happen - even the experts are wrong. Nevertheless, two possibilities seem to emerge: either Hoisington IM are right, in which case economic growth should be very weak, or they are wrong and it will become increasingly complicated for the Fed to have such an accommodating policy. Both outcomes are pessimistic for the market: we remain covered (which goes hand in hand with the Parisian weather)!
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