Trying to explain inflation is like trying to explain conception, gestation, and birth to a five-year-old. It is much better to use the “You came out of mommy’s belly” and hope that there is no follow up question.
The US Producer Price Index (PPI) (A price index that measures the average changes in prices received by domestic producers for their output) increased by 9.7 percent year-on-year in January. The index increased by 1 percent month-on-month and Core PPI, which does not include food and energy, rose by 6.9 percent year-on-year.
President Biden says inflation should “start to taper off as we go through this year” as consumer prices were just recorded as rising at the highest rate in 40 years. “Your brain cancer is still growing but we expect it to taper off in the next few months.”
The Federal Reserve is expected to raise interest rates by 0.50 percent next month. Of course, it could be by one percent, and they might do that three, five, or seven more times in 2022. Or not. It all depends on what expert you ask.
The reality is that the Fed could raise rates by 20 percent this year and it will have no direct effect on reducing inflation. Ok, that is not entirely true. A large rate increase over time will bankrupt more companies in the supply chain, and bankrupt some (not the Philippines) emerging markets. That will help reduce inflation since people will have less money to buy things as the economy spirals down. However, in the end, the shortages will eventually get far worse, and prices will soar again.
On the day of the PPI news, the US stock market went higher but this was after a three-day drop of 1,200 points or 3.3 percent. The reason given was that tensions in the Ukraine region had “eased” whatever that is supposed to mean. Apparently, Putin and his Russian army did not invade. Or walked away. Or something. It really does not matter.
The key to the deal for the Biden administration was that apparently inflation—even at a near 40-year high—is not a genuine problem since the stock market went up. As I have said in the past, the stock market is a favorite politician’s tool to be used for propaganda purposes, up or down.
The US market has been bumping around historic high levels after its climb from the pandemic low in March/April 2020. Since last September, the monthly volatility has been high with wide high/low ranges. Now we could easily see a 10 percent drop and conventional wisdom says with interest rates going higher, that should happen. But here is another thought.
Benchmark US rates are currently at 0.25 percent. However, of “Western” European nations, only the UK and Norway have a positive benchmark interest rate. All but Switzerland (-0.75) and Denmark (-0.60) are at zero interest.
The US market is betting and hoping that an increase in US rates will attract foreign money to the dollar to take advantage of higher rates and that will push the stock market higher. It is actually a good bet.
While at least some increase in US rates is guaranteed, what happens if the economy starts to crumble badly? Rates go down. The Fed pumps more money and the stock market goes up. Also a good bet.
Here at home the local stock market is in good shape after technically filing a trading gap last week. Strong resistance at 7,600 still exists but beyond that a move to 8,200 is probable although that will be a struggle for several months. But I think that is a good bet.
The 2004, 2010, and 2016 elections saw pre-inauguration caution. But the market moved higher after that. I do not see any problem if the BSP raises rates after the Fed as any increase will be slow and cautious. Further, that will keep the peso stable and surprisingly, the economy is currently handling $90 oil reasonably well.
As long as we are not too caught up in the ‘Panic Chaos’ cycle coming in mid-March, this will be a good year for us. Crossed fingers and prayers might be appropriate though.
E-mail me at mangun@gmail.com. Follow me on Twitter @mangunonmarkets. PSE stock-market information and technical analysis provided by AAA Southeast Equities Inc.