Features

Get set for an inflation scare

Investors are getting complacent about inflation. They should prepare themselves for a fright.

945_MW_P04_Markets

The US labour market is tightening quickly

Strong US GDP figures carried a "sting in the tail", says The Economist. The world's largest economy shrugged off a government shutdown to expand at an annualised pace of 3.2% in the first quarter, comfortably outstripping consensus forecasts. Yet "quiescent" inflation running at an annual rate of 1.9% in March suggests that underlying demand could be weak, so the Federal Reserve is unlikely to resume hiking rates for now.

The most likely path for US interest rates is now downwards, reckons Komal Sri-Kumar on Bloomberg. Central bankers are happy to take a dovish stance because previous predictions that ultra-low rates and quantitative easing (QE) would trigger surging inflation did not materialise. Between 2008 and 2015 the Fed's balance sheet of assets bought with printed money "more than quintupled", but inflation remained stubbornly below the 2% target. Other developed markets, including the UK and the eurozone, have had similar experiences.

Why hasn't it appeared yet?

This is especially the case since a crucial driver of inflation is now emerging, says Laurence Fletcher in the Financial Times: rising wages. Pay has been climbing for five years amid a tight labour market. It recently reached a ten-year high. This is a danger to the US-led global stockmarket rally on two counts. Higher costs mean lower corporate profit margins and earnings, which will undermine historically overvalued equities. The broader problem, however, is that investors are looking the other way.

An underrated risk

Any inflationary scare could prompt the US Federal Reserve, which has been counting on low inflation too, to raise interest rates fast to prevent price rises soaring out of control. That would remove a "key support" for global markets, as Fletcher says. It would also be very good news for gold.

Recommended

Why we will be reliant on fossil fuels for a long time to come
Energy

Why we will be reliant on fossil fuels for a long time to come

The energy crisis has shown us just how reliant we still are on fossil fuels. And we will continue to rely on them for a long time yet, says Merryn So…
27 Sep 2021
The charts that matter: China upsets cryptocurrency markets
Global Economy

The charts that matter: China upsets cryptocurrency markets

Bitcoin slid again this week after China declared all cryptocurrency transactions illegal. Here’s what’s happened to the charts that matter most to th…
25 Sep 2021
The Information Age is about to get interesting
Economy

The Information Age is about to get interesting

The IT revolution has been around for a while now, says Merryn Somerset Webb. But we're just getting to the good bit.
24 Sep 2021
The US Federal Reserve is about to rein in its money-printing – what does that mean for markets?
US Economy

The US Federal Reserve is about to rein in its money-printing – what does that mean for markets?

America’s central bank is talking surprisingly tough about tightening monetary policy. And it’s not the only one. John Stepek looks at what it all mea…
23 Sep 2021

Most Popular

A nightmare 1970s scenario for investors is edging closer
Investment strategy

A nightmare 1970s scenario for investors is edging closer

Inflation need not be a worry unless it is driven by labour market shortages. Unfortunately, writes macroeconomist Philip Pilkington, that’s exactly w…
17 Sep 2021
Two shipping funds to buy for steady income
Investment trusts

Two shipping funds to buy for steady income

Returns from owning ships are volatile, but these two investment trusts are trying to make the sector less risky.
7 Sep 2021
What really causes inflation? Here’s what prices since 1970 tell us
Inflation

What really causes inflation? Here’s what prices since 1970 tell us

As UK inflation hits 3.2%, Dominic Frisby compares the cost of living 50 years ago with that of today, and explains how debt drives prices higher.
15 Sep 2021