“The Worst Case For Markets”: Massive Stagflation In 2021 As Prices Rise Without Rising Wages

Sunday, May 10, 2020
By Paul Martin

by Vincent Cignarella, Bloomberg macro commentator
Sun, 05/10/202

“We are witnessing the Great Monetary Inflation (GMI)—an unprecedented expansion of every form of money unlike anything the developed world has ever seen.” – Paul Tudor Jones

The current worry in global markets is a recession, or worse, as the shutdowns to contain the pandemic rob workers of paychecks and consumer spending collapses. But those are relatively short-term concerns, most likely for the second and possibly third quarter of this year. The real concern should be the fallout from the inflation that’s going to accompany any recovery we have and the possibility of a return to 1970s-style stagflation.

Governments and central banks are throwing everything they can at this downturn, and will continue to do so until it improves. Even a U-shaped recovery that happens as late as the beginning of 2021 will have an enormous impact on the prices of everyday items. The biggest threat comes from companies shifting supply chains permanently away from cheaper China imports to more reliable, but expensive, suppliers. But there are other concerns as well.

For example, companies like Disney, airlines and restaurants will likely have to raise prices to meet costs as social distancing rules will still apply. Fees for cable services will jump due to rising costs to carry sports broadcasts to compensate for a lack of fan revenue. Crude futures will likely rise as demand kicks in but suppliers stay firm in order to replenish revenues lost to the virus. Vehicles could see price increases too as automakers attempt to recoup 1st half of 2020 revenue.

The U.S. Treasury will be servicing a massive public debt in 2021 and will be at the front of the line competing with the private sector borrowing. Meanwhile, the biggest buyer of Treasuries, the Fed, will likely be halting purchases as will other central banks, adding to pressure to debt instruments. As rates rise, rents and home prices will jump, with rents a direct component of inflation figures.

There’s an unfortunate downside to this inflationary pressure. While prices will be rising, job growth will be slower to return to normal as social distancing will prevent us from reaching full employment. The combination of rising prices without rising wages will place enormous pressure on the economy, no doubt causing a real economic recession in 2021 and not one that’s the result of a pandemic. This stagflation scenario, not seen since the 1970s, is the worst case for markets, particularly risk assets like stocks and bonds.

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