Is That All There Is?

The 5% US year over year inflation print (CPI) for May was the highest since August 2008–the last cycle peak. Then, as now, growth bulls were certain that demand would continue to outstrip supply and that asset prices were only headed higher.

Comparing with a cycle low in May 2020, a lot of the latest increase is a transitory base effect and the Treasury market sees that. As we expected, Treasury prices are continuing to rally–compared with the end of May, the US 10-year Treasury yield is today 1.47 from 1.58 and the Canadian 10-year is 1.40 from 1.50.

Despite trillions in stimuli thrown at the global demand cycle over the past year, the vast majority of world economies continue to struggle with growth and employment well below 2019 levels. Bubbling stock and commodity markets notwithstanding, it’s apparent that economic recovery will be a process measured in years not months and that extreme optimism is likely to prove hard on capital once more.

There’s no question that durable goods spending per capita has been incredible in North America. In the first quarter of 2021, US durable goods spending leaped 41% compared with the fourth quarter of 2020, to a 60 year high. But there are only so many homes, vehicles, furnishings, pools, and home gyms that a household can use. Especially when they’ve heavily indebted themselves in the process. As the remaining few service sectors of the economy re-open, growth hopes are increasingly focused on small-ticket items: haircuts, concerts, amusement parks, hotels, and restaurants. And only in the few countries fortunate enough to have mass vaccine programs. Most of the world does not.

Jeffry P. Snider offers some illuminating insight and charts in Inflation or Deflation, China, or U.S. goods. Here’s a snippet:

There has been this ongoing perception, the very one underneath all the inflationary hysteria, that the frenzy in the US goods economy is representative of conditions first in the rest of the American domestic economy as well as for the entire worldwide system. In truth, as we see time and again in foreign figures – China most of all, a huge marginal chunk of any growth/anti-growth period – the US goods economy isn’t just an outlier it is an extreme one.

The view instead, from China, consistent with that vast majority, is a very lacklustre return from the depths and one that may just have reached its fullest if disappointing speeds already some time ago. This, along with money/liquidity risks epitomized by Feb 24’s Fedwire disruption and its Feb 25 impact on UST liquidity, would more than begin to explain the changing bond viewpoint.

Dealing in probabilities, it would then make perfect sense why global yields which had previously sprung suddenly into reflationary trading almost as suddenly jumped right out of them. Or, more specifically, the balance of probabilities that had been more favorable after last November, risks tilting toward a limited reflationary upside, tilted right back down again and remain steadfastly lower the longer it goes and the more China (and the rest of the world) fails to converge with US goods – despite having been artificially buoyed by that frenzy in US goods.

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