It did a purely anecdotal thread on inflation yesterday, just to illustrate basic aspects of 'inflation psychology'

I got some pushback, so I will add a bit more color. WHAT IS DIFFERENT ABOUT INFLATION IN 2021

First, I am not a person who always worry about inflation. I have been observing how central banks in the period 2008-2019 persistently OVERestimated inflation. Hence, I am always skeptical when I see a confidently aggressive inflation forecast.
Second, the link between money supply and inflation is very far from simple, even if some textbooks (and many observers) pretend it is simple. It is not the money supply growth that is fundamentally new in 2021.

I wrote about that in December 2020...

moneyinsideout.exantedata.com/p/the-big-myth…
The key point of that blog/substrack was to highlight that while we had seen no inflation for 10 years (and money supply alone did not forecast inflation well), there was something new going on on the fiscal policy front into 2021 that had potential to change inflation dynamics
We have learnt a lot since December last year. Inflation has realized way above expectations, and forecasters are adjusting projections for 2021 and also 2022.

This chart shows how expectations for DM countries on average have drifted up around 1 percentage point for 2021.
And for Emerging Markets, expectations are moving faster (as they normally do) and many central banks are responding (all over Latam and in Eastern Europe are the best examples)
The point I was making yesterday was a very basic one. It is hard to separate supply and demand effects.

Yes, if you have a natural disaster (say storm that shuts down a power plant), that is a supply effect, and once the storm is over, energy prices can come back down.
But what is it that is going on now? Is it a supply problem alone, or are supply chains stretched because demand is so elevated?

(because of elevated fiscal stimulus, and demand switching from services to goods in the pandemic).

It is not so simple.
We have not had inflation for a long time. Behavior had been locked into a non-inflationary type of thinking for a long time, globally. That was before the 100-year COVID shock.
Now we have an inflation shock, realized and in various metrics of inflation expectations. How that will map into changed price setting behavior is an unknown factor. Something to be open-minded about.
We are facing a complex interaction between elevated demand and a cascade of supply side issues. There will surely be some 2nd round and 3rd round effects. The question is the quantity of these effects, and that will map into persistence (weak or strong).
The reason investors should focus on these effects is that we have been so used to no inflation risk, and that many assets had very little risk premium embedded to account for this risk. If the inflation shock lasts into 2023+, then there is a lot of regime shift to price still.
I try to be data-driven in what I do. But conceptually, I see two main reasons why the world may have changed, and why inflation dynamics could be different going forward, relative to what we have seen in the last 10-20 years (not to say that all deflationary forces are gone)
The first factor that may be different is fiscal policy. The stigma associated with very aggressive fiscal policy has changed in COVID times. We have observed this in the US, we have seen some of that in the EU, and we have seen many EMs move much more forcefully than in the past
Persistent demand policy via fiscal policy (and perhaps even distribution policy) is now looking more likely (if not the central case) in many jurisdictions.

(there was even a Jackson Hole paper on the latter)

kansascityfed.org/documents/8337…
The second factor that may be different has to do with climate and ESG efforts. Bad weather is happening more often, causing more frequent supply issues in agriculture etc.
...and the move to new types of (sustainable) energy is creating vulnerabilities too, as we are seeing in Europe now (extreme gas prices) and in China too (energy shortages, which will impact supply chains).
This is not a normal cycle, and we should all be pragmatic that the economic laws that worked in 2009-2019 may not apply in the same way in 2021 and beyond.
I will continue to track as much inflation data as I can get my eyes on to evaluate the momentum / persistency, while trying to understand the underlying drivers

It is pretty complex stuff. If someone tells you it is simple, there is a good reason to be very skeptical.

I will leave it at that. We have a lot to learn about inflation still.

END.

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More from @jnordvig

2 Oct
I run a business @ExanteData. I have always been thinking of the price of our product/service as only a function of its quality.

But now, as some our our cost rise rapidly (heath care up >10%, IT equipment > 30%), I start thinking that there has to be a cost adjustment too.
It is just an anecdote. But when the supply chain issues and other cost pressure are so broad and long-lasting, it is not crazy to think that there will he 2nd and 3rd round effects from the inflation we observe now.
My inflation expectations have been (in my head) rounding to roughly zero for the last five years. It has not been a feature of my price setting. And now I am observing stuff that makes me think differently about cost, and appropriate pricing.
Read 4 tweets
25 Sep
Last week was a serious one. Today, I will try to go in the other direction.

This is partly because a FinTwit guy (see proof below) just said I have ‘humor’ & because I hope to make the next @donnelly_brent top 10 list for funny twitter people.



=THREAD
I may be joking about all this, maybe not (your call)

Economists being funny is all about managing expectations, and I am certainly not joking about that.

I will tell you one brief anecdote, and you will see what I mean.

Here we go...
1/ Some years ago, I went to one of those formal lunches at the Harvard Club (the one in the middle of Manhattan). Lots of mahogany, butler-like staff, and the invited group was sitting around a rectangular table in one of the private dining rooms upstairs.
Read 12 tweets
23 Sep
I had been planning to do a daily China thread this week. But things got a little busy, so I am behind schedule. In any case, here are some observations on why the Renminbi (CNY) is so stable, despite the risk aversion around Evergrande...
Let us start with a recap:

white line is usdcnh (the cnh is holding at around the strongest level since 2018 [low is strong])

yellow line is CNY vs basket (the CNY is strong on a broad basis, around a 5y high [high is strong on this metric]
Hence, while many Chinese assets (from real estate credit to tech equities) have been on the back foot, the currency has been stable, or even strengthening.
Read 18 tweets
20 Sep
Just a few more observations on Evergrande/China Contagion.

Last week, saw the Evergrande tension spreading through the real estate sector (but not much beyond, except Iron ore)

This week, there is already broader based pain...
1/ Today, we have seen Chinese financials are under pressure (in stock space, down >4%

Regional banks down >5% on the day (not shown in table)

2/ global spill-overs are accelerating

Iron ore down another 5%
Aussie stocks down >2%, with materials leading the move down (-3.7%, given the china link there)
Read 9 tweets
19 Sep
Yesterday, I did a mini-thread on what is going on under the surface in Chinese High Yield credit (and it generated A LOT of feedback).

Hence, here is a follow up thread on the structural issues in Chinese real estate, and differences to the US in 2008.
Today, I will show some background data on the structural problem in Chinese real estate, and offer some basic perspectives on how the situation differs from the US in 2008 (not better or worse, but simple different)
The memory from the US in 2007-2008 is still fresh. The US housing market was too hot. There was too much leverage / building. And we ended up with a big crisis => the losses had to be allocated (globally), and policy makers were not willing to (or politically able) fill the gaps
Read 25 tweets
18 Sep
There is a huge amount of focus on China contagion/Evergrande at the moment. Hence, it is a time to be precise. I will not do a comprehensive thread (yet). But just provide some specific color on the High Yield credit moves, which themselves are generating a lot of attention.
It is true that China (USD) credit indices moved a lot last week, after stabilizing briefly in early September.

And there are lots of fintwit comments on that: Here is a good (and sober) example:

It is worth thinking about what is going on under the surface, so I am going to plug in the first 10 names (highest weight in the index) and let them tell the story:

The first one is Bank of Communications (2.4%) weight in HY index. Yield is very stable. Not much contagion here. Image
Read 19 tweets

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