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Inflation: why it’s temporary and raising interest rates will do more harm than good

Central bankers are coming under mounting pressure to get inflation under control.

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A lot of hot air. Africa Studio

Inflation fears have been mounting. The UK annual rate hit 4.2% in October, the highest in a decade, and it’s a similar story in numerous other countries.

This has been causing a lot of debate among central bankers about the best course of action. Some say this burst of inflation is transitory and will pass without any need for any intervention. Others worry that it is the start of a longer period of runaway prices, and argue that we should be raising interest rates and cutting back on “money printing” – also referred to as quantitative easing (QE), which most major economies including the UK have been doing in recent years.

So far, the US Federal Reserve has started tapering its monthly QE at a fairly leisurely rate and there has been talk of rate rises on both sides of the Atlantic, but generally central banks have abstained from getting hawkish so far. But as the inflation numbers have risen and the pressure has increased, there is good reason to fear that they will put their reputations first and succumb. As far as I’m concerned, it would be exactly the wrong move.

The case for the doves

Inflation is like body temperature – it is not a cause but a symptom of underlying potential problems. So before prescribing any policy remedies, you first need to make the correct clinical assessment of what has caused this situation. The recent increase in inflation is not merely due to the central banks stimulating economies with QE and ultra-low interest rates. Had that been the case, inflation would have been going through the roof in the years after the global financial crisis of 2007-09, when these policies were introduced.

It was not until economies reopened after the COVID lockdowns that inflation started to become an issue. There are two things to observe here. First, the situation is not as bad as some inflation fearmongers have been suggesting. In the years since the global financial crisis, it hasn’t been inflation but the risks of deflation that have been keeping central bankers in developed economies awake at night, particularly in Europe and Japan.

There are numerous explanations for this deflationary period, including austerity, lack of public and private investment, low oil prices and globalisation, which helps to keep wages and other costs as low as possible. The chart below shows that inflation in the major economies since 2015 has been consistently below 2%, which is the rate that central banks want to achieve each year for stability.

Inflation around the world since 2015

Chart showing inflation since 2015
CPI = consumer price index. OECD/Office for National Statistics

Even with the recent surge in inflation, the eurozone and Japan’s prices are respectively 3.7% and 9.5% lower what they would have been had they consistently followed an annual 2% inflation path. The UK is now just a little above the target path (by 0.7%), while the US is 3.6% higher – the only significant deviation in the other direction, but hardly catastrophic. One (good) cause of inflation is economic growth, and the US has enjoyed a particularly robust recovery after COVID, with 6% GDP growth expected for 2021. The fact that inflation is rising as a result of this growth is a cost worth every single cent.

Second, the reason for the recent surge in inflation is not excessive monetary stimulus but a revival in global demand outstripping the ability of suppliers to cope (the so-called “disruption and bottleneck” of the supply chain), in conjunction with sharply increasing energy prices.

When supply and demand get back into sync, price rises will stabilise again, since many of the deflationary factors of recent years are still likely to be true in future. This is why the likes of the Bank of England and European Central Bank are forecasting that inflation will ease next year. Even in the US, where inflation is seemingly highest, the expectation is that the recent increase will fade and that prices may even start to fall below the 2% trajectory.

Consequences

There is therefore no good reason for the central banks to react. A knee-jerk reaction to inflation is also likely to choke off growth which is already set to slow in 2022. It could cause a downturn in financial markets, and pile more debt on to public sector balance sheets by making it more expensive for governments to borrow.

Also, the repercussions would not just be limited to national borders – particularly in the case of the US. By tightening monetary policy, it increases the value of a nation’s currency – and indeed the dollar has already been rising lately against a basket of world currencies. Since the dollar is the global economy’s reserve currency, it is used to price everything from oil to the debts of most developing countries (and their major companies).

If the dollar goes up, oil goes up in price, with huge ramifications for the world economy. Equally, a stronger dollar causes the value of the debts of developing countries to rise, which could destabilise their economies. It could lead to capital flight, in which investors dump government bonds, driving down the value of the local currency and making their debt problems even worse. In short, a strong dollar is too expensive for the global economy to afford.

To stretch my temperature analogy a little further, a surge in global inflation is analogous to the symptoms from COVID vaccines. The global economy is heating up, but this heat is a minor cost of the long-term health of the global economy. A little bit of inflation is necessary to grease the wheels of the economy. As the forces of supply and demand find their post-pandemic equilibrium, inflation will probably ease again like the central bankers have been saying. The best thing for them to do is to hold their ground in the face of temptations and not jump the gun.

Muhammad Ali Nasir ne travaille pas, ne conseille pas, ne possède pas de parts, ne reçoit pas de fonds d'une organisation qui pourrait tirer profit de cet article, et n'a déclaré aucune autre affiliation que son organisme de recherche.

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Economics

FT-IGM US Macroeconomists Survey for December

The FT-IGM US Macroeconomists survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s some of the results. For GDP, assuming Q4 is as predicted in the November Survey of Professional…

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The FT-IGM US Macroeconomists survey is out (it was conducted over the weekend). The results are summarized here, and an FT article here (gated). Here’s some of the results.

For GDP, assuming Q4 is as predicted in the November Survey of Professional Forecasters, we have the following picture.

Figure 1: GDP (black), potential GDP (gray), November Survey of Professional Forecasters (red), November SPF subtracting 1.5ppts in Q1, 05ppts in Q2 (blue), FT-IGM December survey (sky blue squares), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

In the figure above, I’ve used the SPF forecast of 4.6% SAAR in 2021Q4; the Atlanta Fed’s nowcast as of yesterday (12/7) was 8.6% SAAR. A new nowcast comes out tomorrow.

Interestingly, q4/q4 median forecasted growth equals that implied by the Survey of Professional Forecasters November survey (which was taken nearly a month before news of the omicron variant came out).

The q4/q4 forecast distribution for 2022 is skewed, with the 90th percentile at 5% growth, the 10th percentile at 2.5%, and median at 3.5%. I show the corresponding implied levels of GDP (once again assuming 2021Q4 growth equals the SPF ).

Figure 2: GDP (black), November Survey of Professional Forecasters (red), FT-IGM December survey (sky blue squares), 90th percentile and 10th percentile implied levels (light blue +), my median forecast (green triangle), all on log scale. FT-IGM GDP level assumes 2021Q4 growth rate equals SPF November forecast. NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

On unemployment, the median forecast is for a deceleration in recovery,

Figure 3: Unemployment rate (black), November Survey of Professional Forecasters (red), FT-IGM December survey (sky blue square), 90th percentile and 10th percentile implied levels (light blue +), my median forecast (green triangle). NBER defined recession dates peak-to-trough shaded gray. Source: BEA 2021Q3 2nd release, Philadelphia Fed November SPF, FT-IGM December survey, and author’s calculations.

The survey respondents also think that the participation rate will take a long time to return to pre-pandemic levels.

Source: FT-IGM, December 2021 survey.

On inflation, the median is higher than the November SPF mean estimate for 2022 of 2.3% (and Goldman Sachs’ current estimate).

Source: FT-IGM, December 2021 survey.

The entire survey results are here.

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Over 170 companies delisted from major U.S. stock exchanges in 12 months

  Over the years, United States-based exchanges have remained an attractive destination for most companies aiming to go public. With businesses jostling to join the trading platforms, the exchanges have also delisted a significant number of companies….

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Over the years, United States-based exchanges have remained an attractive destination for most companies aiming to go public. With businesses jostling to join the trading platforms, the exchanges have also delisted a significant number of companies.

According to data acquired by Finbold, a total of 179 companies have been delisted from the major United States exchanges between 2020 and 2021. In 2021, the number of companies on Nasdaq and the New York Stock Exchange (NYSE) stands at 6,000, dropping 2.89% from last year’s figure of 6,179. In 2019, the listed companies stood at 5,454.

NYSE recorded the highest delisting with companies on the platform, dropping 15.28% year-over-year from 2,873 to 2,434. Elsewhere, Nasdaq listed companies grew 7.86% from 3,306 to 3,566. Data on the number of listed companies on NASDAQ and NYSE is provided by The World Federation of Exchanges.

The delisting of the companies is potentially guided by basic factors such as violating listing regulations and failing to meet minimum financial standards like the inability to maintain a minimum share price, financial ratios, and sales levels. Additionally, some companies might opt for voluntary delisting motivated by the desire to trade on other exchanges.

Furthermore, the delisting on U.S. major exchanges might be due to the emergence of new alternative markets, especially in Asia. China and Hong Kong markets have become more appealing, with regulators making local listings more attractive. Over the years, exchanges in the region have strived to emerge as key players amid dominance by U.S. equity markets. As per a previous report, the U.S. controls 56% of the global stock market value.

A significant portion of the delisted companies also stems from the regulatory perspective pitting U.S. agencies and their Chinese counterparts. For instance, China Mobile Ltd, China Unicom, and China Telecom Corp announced their delisting from NYSE, citing investment restrictions dating from 2020.

Worth noting is that the delisting of firms was initiated due to strict measures put in place by the Trump administration. The current administration has left the regulations in place while proposing additional regulations. For instance, a recent regulation update by the Securities Exchange Commission requiring US-listed Chinese companies to disclose their ownership structure has led to the exit of cab-hailing company Didi from the NYSE.

Impact of pandemic on the listing of companies

The delisting also comes in the wake of the Covid-19 pandemic that resulted in economic turmoil. With the shutdown of the economy, most companies entered into bankruptcies as the stock market crashed to historical lows.

Lower stock prices translate to less wealth for businesses, pension funds, and individual investors, and listed companies could not get the much-needed funding for their normal operations.

At the same time, the focus on more companies going public over the last year can be highlighted by firms on the Nasdaq exchange. Worth noting is that in 2020, there was tremendous growth in special purpose acquisition companies (SPACs), mainly driven by the impact of the coronavirus pandemic. With the uncertainty of raising money through the traditional means, SPACs found a perfect role to inject more funds into capital-starving companies to go public.

From the data, foreign companies listing in the United States have grown steadily, with the business aiming to leverage the benefits of operating in the country. Notably, listing on U.S. exchanges guarantees companies liquidity and high potential to raise capital. Furthermore, listing on either NYSE or Nasdaq comes with the needed credibility to attract more investors. The companies are generally viewed as a home for established, respected, and successful global companies.

In general, over the past year, factors like the pandemic have altered the face of stock exchanges to some point threatening the continued dominance of major U.S. exchanges. Tensions between the US and China are contributing to the crisis which will eventually impact the number of listed companies.

 

Courtesy of Finbold.

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Economics

Stock futures open flat as Omicron concerns ease

Dow futures edged up 0.02%, while contracts on the Nasdaq Composite inched up 0.10%…
The post Stock futures open flat as Omicron concerns ease first appeared on Trading and Investment News.

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Dow futures edged up 0.02%, while contracts on the Nasdaq Composite inched up 0.10%

Stock futures opened relatively flat on Wednesday evening, though sustaining gains posted by a three-day recovery rally that was led by cooled investor concerns around the Omicron variant of the coronavirus.

Dow futures edged up 0.02%, while contracts on the tech-focused Nasdaq Composite inched up 0.10%. All major indexes closed up, with the S&P 500 adding 14.46 points to end the session at 4,701.21, just 0.5% short of the trading session on Nov. 24, a day before the latest COVID-19 variant was announced by the World Health Organization (WHO).

The moves were supported by eased virus fears after Pfizer Inc. and BioNTech reported that early lab studies show a third dose of their coronavirus vaccine mitigates the Omicron variant.

The vaccine makers had indicated the initial two doses may not be enough to protect against infection from Omicron. Shares of Pfizer (PFE) traded 0.62% lower on Wednesday, closing at $51.40.

With virus concerns diminishing, investors are pivoting their attention back to economic data, awaiting Consumer Price Index (CPI) figures on Friday to assess the extent inflationary pressures will persist.

If the Omicron variant was to lead to a resurgence in goods spending at the expense of services or to further complicate supply disruptions, there could be a clear inflationary impact, too, HSBC economist James Pomeroy wrote earlier this week in a research note to clients.

He stated: The inflation news in the past few weeks has been decidedly mixed — with upside surprises in both the U.S. and eurozone being offset by the possibility of some of the supply chain issues starting to alleviate, while energy prices have fallen sharply in recent days.

The post Stock futures open flat as Omicron concerns ease first appeared on Trading and Investment News.

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