So Powell was asked yesterday if he sees the possibility of 1970’s style inflation. He of course said no but his problem and that of the Fed takes place if we just see 1980’s and 1990’s inflation. In the 1980’s, core CPI averaged 6.1%. In the 1990’s it averaged 3.2% only to ‘slow’ further to 2.2% in the aughts. By the way, core inflation averaged 6.4% in the 1970’s where the high print was 11.7% in 1975 and the peak in the cycle was 13.6% in June 1980.
Zero short rates, QE running at a $1.4 Trillion annualized pace and a 1.47% 10 yr yield does not mix well with a 3% inflation rate on any consistent basis. At least a level of 2% the markets have been trained like a dog by the Fed but even at 2% the Fed’s current policy is way off sides relative to rates are now. If we had a fed funds rate of 3-4% and a 10 yr yield just above that, we’d at least have a market shock absorber to any inflation surprise. That no longer exists, globally.
Those that think that the excessive rise in inflation is just a temporary thing seem to be relying on used car prices and lumber missing what is going on everywhere else where every day there seems to be more stories about price increases. If you didn’t see in yesterday’s WSJ, “The global chip shortage is pushing up prices of items such as laptops and printers and is threatening to do the same to other top selling devices, including smartphones. Price increases are snowballing their way through suppliers and key materials in chip making.”
“A laptop geared toward videogamers – made by Taiwanese manufacturer ASUSTek Computer Inc – that Amazon lists as its bestseller rose from $900 to $950 this month, according to Keepa, a site that tracks prices. The cost of a popular HP Inc. Chromebook rose to $250 from $220 at the beginning of June. HP has raised consumer PC prices by 8% and printer prices by more than 20% in a year, according to Bernstein Research…Digi-Key Electronics, one of the US’s largest electronic component distributors, has raised prices of semi related components by roughly 15% this year…Certain components now cost as much as 40% more.”
There is a story on BN today saying “US restaurants, faced with higher food and labor costs, are raising menu prices at a much faster pace than historical rates, insistent on preserving profits after an arduous year. From local restaurants to national chains like Chipotle Mexican Grill, owners have boosted prices by as much as 5% in the past few weeks alone. Even at fast food companies that were locked in price wars just a couple of years ago to win over cost conscious customers, increases aren’t taboo anymore.” They interviewed Andrew Koumi, an owner of 6 Green Market Cafe’s in Tampa, Florida and he said he “isn’t too worried about standing out with his price increases, because ‘everyone’s doing it. Some people are doing it really drastically.”
The inflation breakeven in the 5 yr TIPS has rebounded by 9 bps in just the past two days after last week’s FOMC meeting induced drop as people this week question the resolve of the Fed to remove its extreme policy in a timely fashion relative to the economic realities.
Shifting to the June global PMI’s ahead of the US one in a few hrs, Japan’s manufacturing and services index fell 1 pt m/o/m with manufacturing slipping by 1.5 pts while services rose .7 pts but is still below 50 at 47.2 in response to the still uneven reopenings. Markit said “Panel members commonly associated disruption to operating conditions to ongoing Covid restrictions, coupled with severe supply chain pressures, notably for manufacturers.” Businesses though became more optimistic “that business conditions would improve in the year ahead, and to a greater extent than that seen in May” as the vaccine rollout ramps up and more restrictions are eased.
In Australia, their composite index fell 2 pts m/o/m with both components lower. Markit said, similar to the Japan commentary, “Renewed movement restrictions in the Victorian state and supply constraints stood out as two key reasons weighing on the growth momentum for Australia.” Stagflationary situations are global.
In the Eurozone, its manufacturing and services PMI composite index rose to 59.2 from 57.1 and was all led by services as the manufacturing component was unchanged m/o/m but still a growth driver. Services was helped by “the easing of virus fighting measures in many eurozone member states, notably in hospitality.” Here were the comments on inflation: “Average input prices rose at a rate exceeded only once (in September 2000) over the 23 yr survey history. A record increase in manufacturers’ material prices was accompanied by the steepest increase in service costs since July 2008, the latter reflecting widespread reports of higher supplier prices, increased fuel and transport costs plus rising wage pressures.” As for the ability to pass this on? “Average prices charged for goods and services meanwhile rose at by far the fastest pace since comparable data for both sectors were first available in 2002, with prices rising in each sector at rates not exceeded for approximately two decades.” And the ECB is still conducting emergency QE, on top of regular QE, on top of negative rate policy.
In the UK, its composite index fell 1.2 pts m/o/m with both components lower m/o/m although the index is still above 60 at 61.7. Optimism remained about the outlook but did moderate to a 5 month low. As for prices, “The rate of input cost inflation accelerated for the 5th month running and was the joint-fastest on record, equal with that seen in June 2008. While inflation continued to be led by the manufacturing sector, service providers also posted a marked increase in input prices. In turn, the rate of output price inflation hit a fresh record high for the 2nd month running.” The Bank of England meets tomorrow.
Inflation breakevens are bouncing too in Europe in response and I will say this, I’m amazed at the broad level of nonchalance on inflation and that just magically in the face of the most widespread inflation pressures being seen in 40+ years that it is just going to all of a sudden flame out back to pre Covid trends.
Finally, mortgage apps were up slightly w/o/w but remain sharply lower y/o/y. With the 7 bps increase in the average 30 yr mortgage rate to 3.18%, purchases rose .6% w/o/w but are still down 14.2% y/o/y. Refi’s were up by 2.8% w/o/w but down 9.4% y/o/y. We know crystal clear what is going on in the housing market so I’m not going to pontificate again here ahead of new home sales later today.
Chief Investment Officer
Bleakley Advisory Group