The inflation tax
EDITOR'S NOTE
The headline of J.P. Morgan's latest Global Data Watch pretty much sums things up: "High inflation is a threat to global growth."
"The sharp growth deceleration since midyear is challenging [our previously bullish] view," the economics team wrote in their weekly report, released Friday. "There is growing evidence that price and wage gains are restraining demand, as reflected by last quarter's drop in global retail sales volumes, and the August-September stall in U.S. labor force gains."
The result, they write, is that "the recent rise in global inflation is [more] a threat to growth than a signal that inflation is moving higher on a sustained basis." (Emphasis mine.) This is an extremely important point, with implications for every investment thesis right now.
Because you basically have three camps: (1) The growth boom, where savings more than cover price hikes, and both prices and real GDP increase. This is the "cyclicals" market story. (2) The inflationistas, who are convinced that inflation is here to stay and bond yields will move higher. This is the "long finergy (financials and energy), short high-multiple tech" story. And (3) The deflationistas, like Dave Zervos and Cathie Wood, who warn that it's the bigger long-term force and GDP growth will continue to be scarce. This is the "long innovation" ($ARKK), sometimes long the S&P 500 camp, except that Zervos just turned bearish because of the risk around Fed policy right now.
And you can see this playing out in market performance this year as the prevailing narrative has changed. Back in the first quarter, when the price of lumber was soaring, finergy (the inflation trade) roared higher while large-cap tech went sideways. By mid-June, things had changed--lumber collapsed, demand was starting to falter (the deflationistas). The energy ETF, the $XLE, dropped 15% over the summer while the growth trade resumed.
And since mid-August, finergy has been the leadership again--Energy was the only positive sector last month, and is up nearly 30% from its August lows. It's the pattern again this morning as we kick off the new week. But if J.P. Morgan's team is right, the deflation trade could become the prevailing one again. And the energy rally itself actually feeds into that!
"We are mindful...of the potential for pressures in the energy markets to generate a far greater squeeze on household purchasing power," J.P. Morgan's Bruce Kasman wrote, warning of the pass-through of natural gas prices in particular. The U.S. impact is smaller than in Europe, where the team downgraded GDP estimates as a result. But it's still pretty bad. Just look at what's happening in the Syracuse, N.Y., area, where residents have shown up in protest to their utility provider after being warned that natural gas (i.e., heating) costs will spike 30% this winter.
So, yes, inflation is here. It's real. And it's slowing the economy. It's like a giant new tax on households and businesses, and wage hikes aren't a panacea. And now you have a Fed that has partly caused the problem, by overstimulating demand relative to the preparedness of the supply side, and ends up with an economic slowdown anyway. What's worse, these resulting high food and energy prices hurt low-income households the most--the very contingent that the Fed's super-easy-monetary policy was supposed to help by letting things "run hot" this time around.
And finally, on the fiscal side, the situation doesn't look much better. Politico has a piece today about how the stimulus checks and child tax credits aren't delivering for Democrats; "whatever political benefits were supposed to accrue...have seemingly faded," they write. "Giving people money may not be the dispositive political winner that they imagined."
It may simply be that voters are smart enough to connect the dots and realize what all this cash and Fed stimulus has done to the economy--and how little it can fix of the lingering Covid challenges.
See you at 1 p.m!
Kelly
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