Background
Having a background in investment, finance and data analytics has meant that I often weigh and analyze large volumes of information & data (often incomplete or distorted) to arrive at an analysis or conclusion. This is akin to putting together the pieces of a large puzzle so bear with me as bits of this may seem complicated but should prove useful !
The Evidence – Links to My Previous Analysis
1 How I predicted higher inflation (and not necessarily high taxation) as a consequence of the UK Government’s extreme measures post-Covid.
Tax Rises Post Covid – Do You Know Enough? – The Overlooked ‘Tax’
2. How I predicted a post-Covid ‘crack-up’ boom following QE and low interest rates. (Note: with the recent crypto/NFT sell-off this bubble appears to be deflating as predicted although, in my view, the long-term future of certain crypto-assets may still be high.)
Benefitting from the Post-Covid ‘Crack-Up’ Boom – Some Lessons From History
3. How I predicted a ‘crunch’ back in December 2021? This was last year before inflation had started to increase and the media was widely reporting only good times ahead.
Superman Is Not Saving Us from COVID – The Economic ‘Crunch’ Ahead
And now, for the record, I thought I would present my next predictions for the future for my readers below (along with a brief analysis just in case people think ‘I got lucky’)!
‘An Unstoppable Force Meets an Immovable Object’
In my previously referenced article from December 2021 I mentioned an economic ‘crunch’ ahead. What did I mean by this? I described this in my article as the ‘crunching of economic gears’ (rather than the ‘credit crunch’ previously seen in 2008).
Several months later an article in Bloomberg now shares a similar view to mine (I would say that I predicted it first !).
To recap, essentially, I outlined two (opposing) economic paradigms at work which are wholly and totally incompatible with one another and that the second paradigm would be ‘kicking in’ soon. As with any case where two opposites collide, I felt that there would sure to be mayhem and turbulence before balance would eventually be restored. In my view, there were vast ‘pent-up’ economic forces at play and I used the concept of ‘an unstoppable force meeting an immovable object’ recently made popular in the 2008 movie ‘The Dark Knight’ to describe what happens when these forces are released (by the way, I am using and used the superhero metaphor as a fun way to help explain things).
Paradigm One- ‘It Works in Theory But…. !’
In summary, the Western financial system essentially went bankrupt during the Global Financial Crisis of 2008. In the years that followed, central banks worldwide embarked on a monetary ‘experiment’ whereby extreme measures such as QE, low (actually, in many cases, negative) interest rates and government guarantees and bailouts became the norm.
- Initially designed to relieve a ‘credit crunch,’ these measures were extended far beyond their initial goals and led to a reinflation of prices in financial assets and real estate (without significantly increasing ‘real’ production).
- Essentially, a speculative boom was created with cheap money which crowded-out investment in the ‘real economy.’
- Years later, this has created what some experts call a global ‘everything bubble’ arguably much larger than the one before the GFC.
- The ‘risk-free’ rate of return became meaningless over this period as governments would effectively indirectly or directly guarantee riskier assets and loans thereby meaning bank lending could be provided to entities or individuals at levels beyond their fundamental level of risk (similar root causes resulted in the GFC in 2008).
- Arguably, published inflation statistics have understated this inflation (e.g. the cost of property, education, public transport, medical care all rose above stated RPI & CPI during this period in the UK).
- A further reduction in the bargaining power of labour took place (changes to employment law, globalization and actively limiting the remaining power of unions) prevented an increase in real wages in the UK and USA as workers had less leverage ‘at the negotiating table.’
- During this period certain economists also gave a ‘stamp of credibility’ to this new economic paradigm with the economic theory of MMT (Modern Monetary Theory) which some would argue was simply for political expediency.
Paradigm Two – ‘The Way We Used to Do It’
This paradigm is based purely on conventional economic fundamentals. Higher inflation means, in my view, that Paradigm Two would now be ‘kicking in’ with a vengeance.
- With inflation running above or near double digits the conventional tool in a central bank’s arsenal would be to increase interest rates.
- On a simple level, the idea being that excess liquidity in the economy is ‘soaked up’ and that this liquidity returns to savings where higher interest rates are offered as an incentive to encourage savers to save more. The Risk of an ‘Inflationary Spiral’ – Wage Increases? Essentially an ‘inflationary spiral’ happens when inflation gets out of control and wages start to rise along with price increases. Once this spiral gets going, it can develop a momentum and it usually takes very strong measures indeed to get things back under control again.
- The key ‘canary in the coal mine’ to watch out for, in my view, in such cases is that of wages increasing in the UK/USA.
- Essentially, for decades, workers in the UK & USA (less so in other Western countries) have experienced a ‘real-terms’ fall in their income. They seem not to have noticed (in part, arguably, due to inflation figures not fully representing rises in the cost of living).
- However, as prices around the world now rocket, the fear is that this inertia will evaporate and an ‘inflationary spiral’ will be created whereby prices rise and wages rise also (nominally at least).
- This is why the Governor of the Bank of England recently almost begged citizens not to ask for pay rises.
Don’t Ask For a Big Rise Warns Bank of England Boss
- Without wages increasing, the general assumption in the press is that real wages will fall further as prices rise. In my view, this is widely erroneously reported in the press as a ‘cost of living crisis’. But what if they start to increase?
‘Pent Up Forces’ – Property, Consumer Loans & ‘Zombies’
This is something I specifically mentioned in my last article. I wrote:
The government will be forced to increase interest rates in a turbulent economic Environment
The economic period following the GFC has created interesting ‘bubbles’. Here are examples:
1 ‘Zombies’: According to the Fed 10% of public companies are currently ‘zombie’ companies (i.e. they will essentially go bankrupt without cheap debt). What happens with interest rates go up? (Here is a link.)
In a similar vein, a large percentage of companies have been using cheap borrowing to ‘buying back’ their shares thereby increasing their share price prices with no increase in real productivity.
2. Property: If you just bought a Buy to Let property in Greater London with a yield of 4.6% (see link) will someone still want to buy it from you at the same price if they can put their money risk-free in a bank account at, say, 8% or 10%? Coupled with other negative economic factors such as a recession would it not affect ‘real’ (not necessarily nominal) property prices negatively?
3. Crypo Assets: Does an NFT (a ‘Non Fungible Token’) with a picture of a bored ape have any intrinsic value beyond speculation (see my article on the ‘crack-up’ boom link).?
What Happens Next?
This article is too short for me to present a fully detailed analysis, however, I hope readers got a good overview of the main points.
- I predict that there will be a further interplay with these two (opposing) paradigms.
- My prediction is that governments in the West will wrongly attempt to respond with ‘Paradigm One’ (further QE, bail-outs, Government guarantees, tax cuts etc.) because a kind of ‘decision-making inertia has built up over more than a decade and this is hard to reverse.
- These measures, however, are inflationary and ‘fundamental reality’ will eventually result in central banks having to raise interest rates (i.e. paradigm two).
- Leaving things too long will result in a more pronounced inflationary spiral and greater economic pain when rates have to rise more sharply.
- Raising rates will have a negative impact on real property prices, financial assets (I identify bonds as a key ‘bubble’), consumer debt and ‘zombie companies’ amongst others.
- This spiral will be under-reported in official statistics (as before) or wrongly labled as a ‘cost of living crisis’ and I predict that the press will relay this economic picture months too late.
Ukraine & Russia
I do not have space to explain the Ukrainian issue in detail. However, recent events in the region have only accelerated my prediction with sanctions causing increases Russian in energy and commodity prices thereby further feeding into inflation. With Russia making steady territorial gains (using only a small percentage of its army) in the Ukraine I predict an inevitable win for the Russian Federation albeit at a longer time-frame than most initially expected. There is only hope that a negotiated solution arriving at peace can ease this pressure in the near term as it might result in a lifting of restrictions on energy and commodity imports.
Summary
Readers have to remember that when I wrote the ‘Superman’ article we were in a different economic reality. Few people would have predicted doubled digit inflation in the UK back then. However, in my article I did write that we (usually!) have ourselves to rely on. I used the ‘superhero’ metaphor and explained how we can all become our own heroes. In my view, it is our role to develop Superman’s X-ray vision (or in this case, perhaps, other superpowers such as seeing into the future) in order to help us survive and thrive in a changing economic landscape.
A final important point, this article is my opinion, analysis and an economic commentary only and is not any kind of investment or financial advice. To be double clear, I am not recommending or endorsing any investment strategies or anything else of that nature in this article. For any further examples of further superpowers I have please contact us at X7.
