Inflation, energy crisis, strikes – have we gone back to the 1970s?

By MoneyWeek

published 15 October 2021

in Features

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Merryn: We're just not very good at it, but we are trying. I hope you will notice this – I have a new microphone. One of you very kind, gentle listeners sent in a suggestion of a particular microphone that I should get. I have bought this microphone. It was quite expensive, but MoneyWeek doesn't mind. Anything to improve the audio quality. I hope that it works. I can't do anything about John because he’s 350 miles away.

Speaking of my expensive microphone, if you were to have gone to sleep for three years and you woke up in the UK this morning, you might think that you had suddenly woken up in the 1970s. Inflation all around you, an energy crisis, some muttering in the newspaper this morning about a huge truck drivers’ strike to destroy Christmas. Look around the world and you can see inflation numbers rising absolutely everywhere.

Even in Germany, CPI inflation is 4.1%, that is the highest since 1993. In the US inflation is running at 5.4% at the moment. PPI inflation at 8.6%, which is kind of high. Everyone is talking about rising prices. We're told that the owner of Bernard Matthews the other day explained that food is much too cheap, food prices are going to go up 10%. We know the labour market is very tight. Here we are, John, 1970s. I remember the 1970s, they weren't all that. I don’t want to go back there.

John: Yes, of course. I remember all the stories about doing homework by candlelight and all that. We're not quite at 1970s levels yet, but I don't think that it can be entirely discounted. It's a very different set of things that are happening now. Stephen Roach was writing about this in the FT this morning. It's a pretty obvious point. Back in the 1970s all of the things that were causing inflation to go up looked transitory at the time, which is what central banks keep saying now.

There was a lot of logic to that as well. It's like what can raising interest rates, for example, do to curb high oil prices if it's because the people who produce oil are just not exporting it to you? There was a certain logic to the idea that this is either going to be short-term or it's not going to take off. But it did. It took off anyway. There's that blind spot, both in central banks and in markets, that just because you can make a logical argument that this shouldn’t be long-term and it should shake itself out when supply chains start working again, doesn't mean that that’s what's going to happen.

Merryn: When you look at it, inflation does create itself. Someone was pointing out to me yesterday about how as a result of COVID you have this trouble in the supply chain. There's hold-ups all over the place. People think to themselves, gosh, I've got to build some resilience into my personal supply chain for my business, so I'm going to over order a little bit. So they order slightly too much, so they have some slack or feel they have some slack, and next thing you know there's even more stuff stuck in the supply chain.

There's more ships all over the place, more shipping containers all over the place. Then, when the stuff arrives, everyone needs more warehouse space than they would have otherwise, at a time when warehouse space is already at a premium because of the pandemic and us going to online shopping, etc. Then the price of warehousing goes up. I saw in the newspapers this morning in The Times, thank you very much for that statistic, a square foot of top quality shed around the M25, this time last year was £16.50 and now it’s £18. Now that’s actually quite a rise.

John: The employment market is weird. Before we go into that the other point with inflation is that people want to raise their prices if they feel they can get away with it. That's often slightly overlooked. I've been hearing this thing about how we all need to pay more for our food for about 20 years. Now that there's an opportunity you jack up the prices. I can't help but think that they’ll go up a bit more than they need to. Everybody wants higher wages. Everybody wants higher prices for what they sell.

John: It is. We've got the statistics. The latest statistics from the UK say there are now more people employed than there were before the pandemic, which does start to make you think how that can be the case. It's not that the unemployment rate is lower than it was before the pandemic because there's more people around, but there's more people in PAYE jobs than there were, which is very striking indeed. Why do we suddenly need more people than we did when everything was running smoothly in 2019? I don’t know.

John: It does. You would think the ONS would at least try to accommodate that in some way. They're quite capable at wages. The wages are not actually like this because of base effects and all the rest of it. The other big point is the black/grey economy possibly shrinking. That would tie in quite well with the fact that we keep hearing about how lots of immigrants moved back to the EU and didn't return. There's possibly an element where a certain volume of jobs that weren’t on the books have been replaced by jobs that are on the books. Potentially that might be a factor.

Merryn: There's also this idea that the support to workers during the pandemic has been so huge and that there has been no support to workers who are working on the black. It makes sense to people now to think, hang on, there may be more of this coming. It may be we're going to have another terrible winter, more lockdowns, probably this, probably that. Why would I stay in the informal economy when all the protections are in the formal economy?

Merryn: I know. I was thinking this yesterday when I was calling a call centre. The recorded line said because of COVID we can't answer your call as quickly as we could before. I'm like, hang on, we're nearly two years into this now. If the call centre has everyone still at home, if they can work as productively from home as they can in an office, why can't they answer the phone because of COVID? It doesn't make any sense at all. That very message tells me that that company believes people are less productive at home than they are in the office.

John: I don’t think you're missing anything. It's also been an epic excuse for lots of companies to manage expectations down in a way. Oh, I see, that’s an inflation thing. We’ll get back to that in a minute. The productivity stuff I'm wondering about because I haven't kept an eye on the productivity statistics, but presumably this would all start to show up in those if productivity is collapsing at the same as wages are going up and employment is going up.

Merryn: Let's go back to that very briefly. Let’s talk about us, John, the 40 minutes we spent trying to set this up. If we’d been in an office with tech support people that would have been dealt with in five. And then let's not forget that we wasted another ten minutes before we started this because I'm at home and a DHL driver rang me and said we’re coming with your parcel, we’re a bit late, and I answered the phone because I'm just talking to you, fond as I am, I answered the phone.

The call centre example is a good one. Your phone is not going to be picked up as quickly. In fact I think he talked about that specifically. People in America were having to wait for much longer for phones to be answered whenever they were calling up shops and things. You might say that’s all minor, but the point is that if you adjusted for services hedonically in the way that when beef’s not valuable they put chicken in instead.

For the inflation statistics inflation would be a lot higher because the quality of the services we're getting has deteriorated as a result of COVID. I thought it was a really interesting point. You do wonder how much of that is behind the rise in employment stats. What does that mean in the longer run for productivity? We've got more people going less, which is the opposite direction from where we need to be going.

Merryn: It's also completely the opposite of what we expected. There is a big discussion in the US about the extent to which people will continue to do less. You’ve noticed I'm sure the participation rate is the US, the percent of the population who are prepared to be in the workforce has fallen. People keep saying, why is this? Partly because older people have retired earlier, as a result of COVID they're like, sod this, they're not going to do it anymore. As the stock market has gone up they go, well, if I can afford not to do this anymore, so you’ve got people leaving the workforce early.

John: In a weird way it is the promise of not necessarily the gig economy, but the digital economy, where there's more autonomy for the individuals. I do think that working from home and COVID have accelerated that. I was thinking about this the other day, something basically unconnected, but if everyone’s working from home then whatever else that does, it flattens hierarchies and traditional corporate hierarchies in quite a significant if informal way.

I do think it's one of these things that COVIDs accelerated rather than created. But in this case I really do think that we've moved at least five or six years faster than we would have towards the vision of the digital economy than we would have thought in 2019. Maybe people also want more leisure. The problem is these two things don’t match up terribly well. Asset prices are very high, and very specifically house prices are very high, so you do still need to earn a decent amount of money if you want to graduate to doing the things that an adult tends to do, like owning a house and having kids.

John: It's quite possible. Although I don’t know if he's got a partner or anything like that that he's trying to convince. That’s definitely possible. Men have done more significant things than writing an article in The Spectator to get out of commitment. The thing of not being able, you feel you've got the quality of life that you were brought up with does seem to be a bigger thing now. Again, that’s just down to house prices. There was that whole thing about millennials being the rental generation. We don’t own things anymore, we just want to rent them.

Merryn: It is. Absolutely, you're right. We’d be able to get houses for our kids, or our kids would be able to afford to buy houses for themselves. Let's put it that way around. Here we go. We've got an inflation rate environment. We are fairly unconvinced that it's transitory. Of course we could be wrong, but then what is transitory? One year? Two years? Five years? Ten years? You could say that the inflation in the 1970s was indeed transitory because it was over sometime in the 80s.

Merryn: In the editor’s letter this week I talk about how the interesting thing here is going to be we are going to find out the extent to which the valuation of our big growth stocks, particularly the big techs in the US, are based on very low interest rates, and the extent to which they are independent from very low interest rates. Because there's been a view over the last few years that the lower interest rates go, the higher tech stock prices can go because the discount of future cash flow is different.

What happens? Our expectation is that as rates rise, the share prices of particularly the companies that don’t have much in the way of cash flows at the moment, so I'm afraid we always come back to Tesla here, that kind of company will see its share piece fall, and that the place to be invested is in various deep value or value-related areas, because those are the areas that offer you some automatic protection from inflation.

John: That makes perfect sense. Whether it happens is a different matter. It makes sense. It's logical. The interesting thing now is bond yields, because the bond market is still acting as if inflation is not going to be an issue. One obvious elephant in the room there because people tend to assume that markets are efficient, but we’d still have central banks buying a lot of bonds. So I do think it's difficult to say that the bond market is 100% rational when you’ve got an entirely pricing sensitive buyer still hanging about at the margins.

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