Markets are looking askance at the US inflation data to be released this Tuesday. After the ‘stumble’ suffered by the stock markets on Friday, the fear that exists in the market of higher inflation seems increasingly evident, which will force the central bank to ‘withdraw the punch’ earlier than expected, putting down the party of the markets. The Fed, the ECB or the BoE are beginning to recognize that inflation could be more ‘sticky’ than they believed.
In the end, these surprises in inflation are what can mark the future of monetary policy and, therefore, of the markets. A CPI data that surprises to the upside, just now that the recovery begins to show signs of exhaustion, can revive the ghosts of the 70s , a stage marked by stagflation (rising prices and an economy that grows little in real terms).
From the financial analysis house Ebury they point out in a note that “the concern about stagflation after the August US payroll report was confirmed by another labor market report (JOLTS) , which showed that unfilled vacancies increased to reach an all-time high in July. “
In this way, and given the possibility of an earlier central bank intervention to try to cover the rise in prices, ” interest rates on debt continued to rise throughout the world , risky assets staggered and the main currencies They did not show great changes, staying generally within 1% of each other, “they explain from Ebury.
What will the Fed do?
Despite the dual mandate of the Federal Reserve (controlled inflation and full employment), if prices ‘run wild’, the Fed could be forced to act before the labor market reaches full employment, which would be a severe setback for some markets that maintain very high valuations, in part, thanks to a very expansionary monetary policy.
Right now, as explained by the financial agency Bloomberg , it is being seen how expectations of higher inflation with slower real growth are affecting markets with declines in a good part of financial markets, as could be seen last week. pass. Although the consensus speaks of inflation that could fall one tenth (in year-on-year terms) to 5.3% in August, this variation rate continues to more than double the Fed’s medium-term objective .
It is true that there may be some relief, since the CPI could be beginning to stabilize (we will have to wait for Tuesday’s data to confirm it), but the problem is that this stabilization is taking place at a fairly high level. The weight of the factors that, presumably, were temporary is still important, but it is that perhaps those temporary factors (energy, bottlenecks, shortage of components …) are going to last longer than expected, as recognized by Christine Lagarde, president from the ECB, last week .
Although the consensus speaks of an inflation that has been able to reach a ceiling, some leading indicators of inflation such as the PPI or the producer price index continue to break records and exceed the forecasts of the experts. The PPI stood at 8.3% year-on-year in August , which shows the problems of companies to find the inputs they need. If this price increase is passed on to final goods and services, inflation will continue to be news.
All of this is taking place in a global inflationary environment (the UK publishes its CPI on Wednesday and a further rise is anticipated), with central banks still injecting large amounts of liquidity into the economy, consumers returning to the streets and inventories Under minimum. To this, in the specific case of the US, there is a labor market in which there are more vacancies than unemployed and in which the lowest wages are rising at an annual rate of 10%.
Dwyfor Evans, head of macroeconomic strategy at State Street Global Markets, tells Bloomberg that “inflation is much more sticky than anyone would have anticipated maybe six months ago. We believe inflation will come down by the end of the year. However, What is quite clear is that the rate of deceleration of inflation in the second half of the year will continue to be very, very slow.Even in regions like the euro zone, the UK and elsewhere, inflation is very high. That will add an element of uncertainty: Will central banks advance monetary policy normalization? It is unlikely, but it will be there and will have an impact on market sentiment in the short term. “
Matt Maley, chief market strategist at Miller Tabak, believes the US 10-year bond yield needs to rise above August highs of 1.37%, and probably above 1.4%, to confirm. the breakout, but if that happens, it will also confirm a multi-month trend reversal in upward bond yields. “If that happens at a time when the data is not robust (and Wall Street companies continue to cut projections), it will be an even clearer sign that stagflation will be a problem going forward.”
This expert warns that just as we have now witnessed a simultaneous rise in stocks and bonds, if inflation forces the central bank to tighten its policy, a joint correction of both assets could be seen , generating a generalized bear market.
The new data will give clues
From Ebury they believe that this week’s data will give clues about what may happen: “Inflationary pressures are expected to continue in both countries. In addition, the markets will be cautious before the decisive meeting of the Federal Reserve and the Bank of England. next week, as well as the upcoming German elections. “
While it is true that inflation could stabilize in the coming months (in the euro zone it will continue to rise until the end of the year and early 2022), everything indicates that prices could remain at relatively high levels for longer than expected. In addition to the wage tensions in the US or the United Kingdom , there is the price of metals that does not stop rising, the energy transition (it is already clear that it will be inflationary) or the shortage of some inputs such as chips that could not be resolved in months or years.
The market must internalize this new scenario with less real growth and more inflation. However, the great threat to the uptrend (both in bonds and stocks, which have been surprisingly correlated) in the short term is a normalization of monetary policy that comes earlier than expected and more abruptly than expected. . Central banks could choose to withdraw the punch in the middle of the party by throwing a tantrum, but perhaps avoiding a much more painful hangover.