Rates, The Dollar & The 2021 Outlook

As we move into the second half of 2021, interest rates and the dollar continue to shape the outlook.

Of course, much of the debate focuses on whether rates and the dollar continue to miss the bigger picture. For example, just recently, Jim Bianco tweeted a critical point.

Rates Dollar Outlook, #MacroView: Rates, The Dollar & The 2021 Outlook

However, while I very much respect his opinion, I am not sure I entirely agree. Such is where the analysis of rates and the dollar suggests a different story.

 

The Inflation Premise

We previously discussed that inflation might indeed be more transitory given the drivers of increased prices were artificial. (i.e., stimulus, semi-conductor shortages, and pandemic-related shutdowns.) To wit:

“Inflation is and remains an always ‘transient’ factor in the economy. As shown, there is a high correlation between economic growth and inflation. As such, given the economy will quickly return to sub-2% growth over the next 24-months, inflation pressures will also subside.” 

Rates Dollar Outlook, #MacroView: Rates, The Dollar & The 2021 Outlook

“Significantly, given the economy is roughly comprised of 70% consumption, sharp spikes in inflation slows consumption (higher prices lead to less quantity), thereby slowing economic growth. Such is particularly when inflation impacts things the bottom 80% of the population, which live paycheck-to-paycheck primarily, consume the most.”

However, another important factor behind inflationary pressures is an individual’s actions. As noted last week by Société Générale’s Albert Edwards:

“Surveys suggest that inflation fears have become investors’ number one concern. But why look at it that way? We could equally say it is investors’ own bullishness on the strength of this economic cycle that is driving prices sharply higher in the most cyclically exposed equity sectors and industrial commodities.”

Bloomberg’s John Authers discussed the same, noting a “reflexivity” to investors’ belief in rising inflation.

“In inflation, as in many other areas of economic life, perceptions can form reality, and that is certainly true of inflation. The University of Michigan monthly survey of consumers’ expectations perennially shows shoppers foreseeing more inflation than will in fact arrive. The important factor here is the direction of travel. If they are more worried about inflation, they will do more to guard against it, which will tend to push up prices.”

Psychological Inflation & China

Such is an important point, as Albert notes:

“When investors pile into commodities as an investment vehicle to benefit from rising inflation, they create substantial upstream cost pressures. Beyond the cascading effect of upstream commodity price pressures, headline CPIs are also quickly impacted as food and energy prices rip higher.”

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