November 12, 2023 - 8:00am
Guys, this time I’m serious. That seems to be the message central bankers have started telling anyone who’ll listen, and especially the markets. The problem is, everyone seems to think they’re just saying that.
After US government bonds broke through the 5% level on their inexorable upward journey, they suddenly reversed course. A strong rally, apparently the result of short-covering, took them back into the 4% range. Thereafter a raft of soft economic data in Western economies, from weaker job creation to slowing inflation, along with some messaging from central banks that the heavy lifting in the fight against inflation was done, kept the rally going. By the middle of this week, with US interest rates heading back towards 4%, stock markets took the promise of cheap money and ran, recording their best week in a while.
The resulting loosening of financial conditions alarmed central banks, though. So on Thursday Jerome Powell stepped in to turn off the music and switch the lights back on. “The process of getting inflation sustainably down to 2% has a long way to go,” the Chairman of the Federal Reserve Board, the US equivalent of a central bank, told an IMF conference this week. His colleagues elsewhere were quick to concur, with Christine Lagarde saying that the European Central Bank wouldn’t be cutting rates for at least a couple of quarters and a deputy governor at the Bank of Canada adding that interest rates wouldn’t return to the ultra-low levels we once knew.
But investors have heard this all before. Ever since Alan Greenspan initiated the “Greenspan Put” after the 1987 stock market crash, investors have assumed that each time markets fall, central banks will put them back on track by cutting interest rates. Although central bankers have repeatedly tried to extricate themselves from this understanding, they have caved at each sign of stress in stock, bond or property markets. So investors have come to regard their protestations that this time will be different as little more than the boy crying wolf.
Yet things have changed since the end of the pandemic. Not only has inflation returned as a serious threat for the first time in decades, but contrary to what was initially assumed, it is likely to prove chronic (even if at manageable levels). Changes in labour markets and the global economy have altered the inflation regime, making it unlikely that inflation will return to previous levels very soon, if ever. That means higher interest rates are probably here to stay.
Moreover, despite cries from investors that the markets can’t bear much more pain, given how sharply central banks have choked off money supply, what they neglect to mention is the sheer volume of money still circulating. It’s true that over the last couple of years, central banks have sucked $6 trillion out of the global economy, an unprecedented tightening. But this is a small share of the more than $30 trillion they’ve pumped into the world economy since the 2008 financial crisis. With much of that money still around, markets can rally sharply every time there’s a hint that better days might soon come.
This battle of wills will likely continue. But with the exception of the Bank of Japan, which faces a peculiar problem in the country’s long stagnation, it seems unlikely the major central banks will back down this time — at least not until they are satisfied they have inflation firmly back under control. The Greenspan Put may never come back. When this finally dawns on investors, things could get rocky in markets. Investors should beware.
John Rapley is an author and academic who divides his time between London, Johannesburg and Ottawa. His books include Why Empires Fall: Rome, America and the Future of the West (with Peter Heather, Penguin, 2023) and Twilight of the Money Gods: Economics as a religion (Simon & Schuster, 2017).
jarapley
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SubscribeThe move from capital to labour based on demographics and financial repression is real and will be sustained (Peter Zeihan would say out to mid 2030s when kids of the millenials are available and sovereign debt levels are back to levels which avoid fiscal dominance).
To late boomers or folks thinking of early retirement I would say don’t unless you’ve run the numbers for a 5 % point real annual decline in income over a 10 year period (or are happy to bite substantially into capital).
Don’t touch sovereign bonds, get into a SIPP to try and avoid mandated sovereign bond holding, hold industrial equites in your own name (not a brokerage account), and don’t ignore commodities. I would also listen to some Russell Napier interviews (many good YouTube examples online – as a financial historian of repute he knows exactly what to expect)
I don’t always agree with John Rapley, but he’s right on this one.
Meanwhile, right now there’s price gouging going on in the fmcg space.
That’s not retiring – it’s moving into a new, demanding and tedious career as a money manager/ financial analyst. Take up growing your own food instead (see comments above).
BLACKSTONE BUYING UP US HOUSING. WHERE DO THEY GET THE MONEY. WHERE DO THEY GET IT ? i ask you. Its a mystery where it comes from ? But im off toopic. Housing isnt factored in to inflation. Anyway i own nothing and im happy, dont mind me. Off to worry about girlboss feminism or some such
The real economy of things and people is rebalancing supply side problems. The financial side is dealing with the problems of fiat money. Eventually all the debts of the state will either be inflated away with a total Wimar scale hyperinflation, or a debt jubilee will be proclaimed. All previous governments have chosen the hyperinflation resolution. A jubilee would be quicker and less painful, and less likely to lead to revolution. It appears that hyperinflation is less painful to elites and more painful to commoners. The reverse is likely true of a jubilee.
The US (and other western countries) hugely expanded the money supply, which by definition creates inflation, and made concerted efforts to “end fossil fuels.”
Those are the real reasons for historically high inflation.
Quite, that aspect of the downtown in the economy was entirely self inflicted
Printing money is more of a problem than food prices!
Inflation is always and everywhere a monetary phenomenon. Sadly the liquidity spiggots are still on – they’re just changing the name of each initiative to try and disguise the facts, although Yellen is being brazen with the issuance of short-term treasuries in terms of debt monetisation. Whilst the montary stimulus is inflationary, it continues to blow up asset prices. The reversion to the mean of this ever-expanding balloon could simply mean more and more years of financial repession. As Luc Gromen says if we need to get from 120% debt:gdp back to 50%, we can do 20% real inflation over 3.5 years or 5% over 14. It’s potentially going to be long and painful. Of course a war could allow the reset and new deal settlement. No options look great, but clearly some worse than others.
The food prices in Tesco most certainly have not fallen or plateaued. To the contrary, they have appear to have risen substantially since Christmas 2023 – as has the price of almost everything else. Everyone we know is complaining about the sharp price rises of foodstuffs in supermarkets.
It is not as bad as 2008/09 when our electricity bills increased overnight by c.60% while being told that the rate of inflation was near zero of even below! Some of us have lived long enough never to believe anything that governments (i.e. elected politicians and civil servants) tell us!
No idea whether you have any appetite or space for growing your own, but we’ve made it a 4 year mission to learn how to seed save, grow, and preserve food stuffs. One of the most unexpectedly rewarding things I’ve ever done. Either that or I need to get out more.
Of course ‘world events’ could disrupt this trend quite rapidly. Probably the big two being – China does something in S China sea re: Taiwan; conflict escalates directly with Iran. Heightened trade war US/China and/or major developments in Ukraine probably jostle for a third?
But that aside the Author’s final point worth really recognising – income has being moving from workers to owners for decades! Yep too right and fundamentally increasing inequality as it does so, as well as generating incentives to invest in Assets rather than businesses that generate goods and services and well paid employment. Author dead right to flag this, but may grossly underestimate how much this will be corrected by the inflation/interest rate levels now predicted. This still leaves ‘ratcheted in’ long term inequality, unfairness and disincentives, particularly inter-generational. It is the root cause of so many of our problems. Grasping that at least it may ‘slow’ as a trend not a great consolation. We need to tackle it much more fundamentally
Central Bankers have inflated Asset prices . We must not let them do it again.
IDK. I’m not seeing any of this in my neck of the woods. Fuel prices spiked very recently, only in part due to a rise in Canadian carbon taxes. Food prices are still rising noticeably.
One of the reasons that this hasn’t caused a huge fuss is that 60% of home owners have now paid off their mortgages. 30 years ago, an interest rate hike would have caused a political firestorm. Now neither increased borrowing rates or falling house prices bothers a mortgage-free owner occupier. In fact, having a reasonable saving rate is a net positive for them.
Now if we just had a sensible level of immigration which was balanced with our ability to build new homes, we could see house prices drop to the benefit of those first time buyers and renters.
I see the “blip” of interest rates down at the one or two percent between 2010 and 2020 as the “not normal” phenomena.
A quick search shows the average to 7.7% over 50 years in the UK.
4%/5% seems very reasonable to me going forward.
Agree. Pre 2008 my rule of thumb was a neutral policy was a 2-2.5% real short term rate i.e. if inflation expectations were 2% then neutral nominal interest rates should be 4-4.5% with bond yields a bit higher.
The artificially low or negative real rates of 2008-2022 led to inflation. It just emerged as house and other asset bubbles rather than goods inflation because of the disinflationary impact of globalisation.
I suspect central bankers will end up being much criticised for the 2008-22 period.
Spot on, and for the foreseeable future potentially something of a roller coaster (just been listening to a podcast about the potential for $200 barrel oil next year based on certain geo-political scenarios).
Long may it continue