Rabo: The Sudden Meme Is That The Surge In Inflation We Had Been Seeing Is Now Over
By Michael Every of Rabobank
Peace For Our Time
I won’t apologize for recycling the clichéd old headline I use again today because minutes before beginning to write, a ceasefire went into effect between Israel and Hamas. Hopefully this holds, and 11-days of fighting stops. If so, markets will immediately stop thinking and talking about this issue, and what happens next; and everyone involved locally will do nothing else but. Crucially, a ceasefire is not peace.
Not unconnected, Iran’s President stated agreement has been struck to roll back sanctions and get Iranian oil flowing. Therefore, the 2015 JCPOA nuclear deal is about to be re-struck too. Presuming the original timetables are still valid, in 2023 the UN-sponsored ban on imports/exports of missile-related equipment and technology expires; so does a prohibition on ballistic missile launches. In 2024, advanced centrifuge restrictions are lifted; in 2025, past UN Security Council resolutions terminate, as does any ‘snapback’ mechanism to restore sanctions; in 2026, limits on the mass deployment of centrifuges sunset; and in 2030, there is no cap on the enrichment purity level of uranium, or stockpiling it, or building new nuclear plants, reprocessing plutonium, or building heavy water reactors. In short, critics point out that every component needed to produce a nuclear bomb will be allowed – yet JCPOA supporters say there won’t be one. In the near term, this news reduces geopolitical tensions; but longer term, it’s unclear if this is a strategy for peace or just another ceasefire.
Not that these issues are only about the Middle East. If there is a “Peace for our time” element about foreign policy at the moment –in that it fails to address the real underlying problems– then the same is necessarily true in markets.
Stocks were up again yesterday, but key bond yields were slightly lower, and US breakevens continued their declining trend, as key commodity prices –led by oil– were lower, not only on the Iran news, but as China underlined it is serious about cracking down on commodity-price inflation. Indeed, the sudden meme is that the surge in inflation we had been seeing is now over.
I fully agree there is still a low risk of a wage-price spiral taking hold; or of central banks being politicized enough (yet) that they will champion labor over capital if CPI and wages both rise: we are heading in that direction, but aren’t there for now. As such, there will be demand destruction via higher prices ahead. However, that does not mean we have already seen the peak in this current phase of “PPI” inflation, which will determine how bad that demand destruction gets. Far from it, given snarled supply chains not built for the disruption they are currently experiencing. Indeed:
Oil will stay low if, among other things, there is Middle East peace. Yet it will go a lot higher if there is a Saudi-Iranian or Israel-Iranian war, and/or if Iran uses its new oil wealth to push its regional footprint even more;
Chinese micro-managing of its latest burst of commodity speculation won’t count for much if Beijing is going to continue stockpiling key goods and/or driving its economy with over-investment in housing and infrastructure, as is still the case; and
Further US fiscal stimulus will surely push commodity inflation higher again – so we have to wait and see what passes on that key front.
Meanwhile, Crypto saw another choppy day after the US stated the IRS will require reporting, and hence taxing, of any crypto transaction over USD10,000. The optimists argue this means an outright ban, as in China, isn’t likely. The pessimists note that if this new regulation is put in place, then any ability for crypto to act as a true money substitute is massively diminished. Imagine if every time you transferred more than USD10,000, as businesses do multiple times every day, you had to: (1) report it; and (2) pay a tax rate –let’s assume 15%– on the difference in the exchange rate of USD against EUR,….in a world where EUR/USD moves 30% in a day. It makes crypto unviable at any scale; and if there is no successful strategy for that scale to emerge, then any recent increase in pricing (which is of course still denominated in USD!) is just speculation. Which will no doubt continue regardless.
The Fed also announced that this summer will see the launch of a working paper on a “Digital Dollar”, which also has to be taken as a negative for crypto: because once the government has its own skin in the game, it will be even less inclined to brook any digital rivals. As repeatedly underlined here, currency, technology, markets, economics, politics, and geopolitics are all linked at the moment.
Indeed, jumping from the former to the latter, US Secretary of State Blinken has said the US does not intend to purchase Greenland(!), as if anyone thought it was for sale just because former President Trump made that joke. That Blinken statement came as the US discussed the Arctic with Russia, who stated it will “knock the teeth out” of any states trying to muscle in on an area full of potential oil and gas deposits. (Didn’t the IEA just wave a document saying we aren’t allowed any new fossil fuel development from now on?) Greenland also has massive rare-earth deposits, which has attracted Chinese interest. Without such rare earths, one ends up with shortages in electronics supply chains, including key defense goods; and then you have supply-side inflation and national security problems. In short, the US might not *buy* Greenland, but it certainly can’t ignore it – most so when others have no intention of doing so.
To conclude, if waving well-intentioned pieces of paper around solved our problems, we wouldn’t have any; and what looks like peace for our time rarely is. Allow me to conclude with an excerpt from another, less famous quote from Neville Chamberlain that should serve as warning to all of us on how we see the world and structure our portfolios:
“This is a sad day for all of us, and to none is it sadder than to me. Everything that I have worked for, everything that I have hoped for, everything that I have believed in during my public life, has crashed into ruins.”
Fri, 05/21/2021 – 10:00