First Principles

collage of banknotes superimposed with an inflation graph - featured image of a blog post by charles gillams of monogram capital management ltd

Principles may be lacking in certain quarters, but we will start with the economics of inflation rather than Boris.

How much inflation and for how long?

Inflation is simply too much demand for the available supply, nothing more complex than that. So, you tame it by either less demand or more supply. So, unlike it seems most Central Bank economists, who it turns out are just statisticians, for ever looking back, we must project forward.

That tells us quite clearly that the inflationary imbalance will persist as long as demand stays artificially high and supply is artificially constrained. It is that simple. Forget the rest.

So as long as governments have fiscal laxity, along with negative real interest rates, they are pushing up demand. As long as workers won’t or can’t work, it will reduce supply, as long as economic activity is made less efficient by government action and diktat, it will reduce supply; end of.

So, at the very least Central Bank balance sheets must start reducing, which is not happening, stimulus must be fully withdrawn, which is not happening, and the old workers and their old ways of working must resume, which is not happening. Fresh capital can certainly change some of that, but it takes time.

Putin, Oil, and Geopolitics

What about oil?

This is the one item that alone might distort the picture. Which is positive, as we see oil prices falling in the summer. We also don’t see the West has really grasped what Putin is up to; in all the cold war style hysteria, he is possibly just after what he says. This is for the West to stop fomenting rebellion in Russia’s sphere of influence, and to be clear about NATO expansion plans, where there are indeed none in existence. He might have higher hopes, perhaps of a deal on Crimea in exchange for the Donbas, but we doubt it (or his chances of getting it are low). As might we, less interference in our politics would be nice; but see previous answer.

Nor is it that clear he is actually rationing energy; it is telling that Russia is reported as not able to meet its OPEC + quota, which at these prices is crazy. His oil industry will have been hit by sanctions, and the loss of Western expertise, and the Russian economy will also have suffered under COVID. A loosening of sanctions would really help him, for all his bravado.

If that reading is correct, as the situation winds down and OPEC+ winds up production, oil prices will fall, I would expect quite substantially. Much of the energy spike is self-inflicted, with nuclear plant closing or offline in France and Germany, and reckless price controls, having made using UK gas storage unattractive. All of these things can be sorted out.    

Any possible good outcomes on inflation?

So, to inflation, well it won’t care much about the pinpricks inflicted by the likely interest rate rises now under discussion, especially if they creep up so slowly no one notices. It needs a unified 1% OECD jump to cool this lot down, and the ending of stimulus. Neither is likely. Closing the US printing presses, were it to happen, does also have interesting global impacts, as Andrew Hunt notes.

We see it all turning rather glacially, with a bigger slump in inflation, if energy prices fall, but then being generally persistent in the 3% area for the rest of the year. We expect to have both higher rates and inflation for a while.

All of this is mighty tricky for investors, but I don’t sense that just bailing out is right, nor that the actual interest rate rise will cause an enduring slump in all asset prices. Investors have to own something, or they will sit and be mauled by inflation.

And what of Johnson?

It is easy to read the current level of confusion from either side’s viewpoint. Yet to me, I see the normal factional infighting, the usual media exaggeration, some political mischief making, but still no reason to depose a Prime Minister with a very clear mandate and a large majority.  Like any large party the Tories have the embittered and passed over, the Remainers and fans of state intervention and a volatile and raw body of new recruits in seats no one ever expected to win. Plus, no doubt a few opportunists who sense that the heavy lifting on COVID and BREXIT is done, and they can now seize all the prizes.

The Tories do need a reset; it would be nice if Downing Street left Ministers to govern and simply acted as a cheerleader. Not that I see that happening, leaders and their hangers on always lust after more and more centralization, more control. But until a compelling, unifying, plausible Tory opponent appears, I foresee no change.

And in a way with reform all but dead, with Gove’s last hurrah on ‘Levelling Up’ a damp squib, it may not matter who leads the Tories, they have very little real power.

It is quite odd how big majorities do so little good, and how poor party discipline is, when they have them.    

Charles Gillams