Money & Markets: After the virus, make sure you’ve read the inflationary playbook

The global economic machine has taken a battering from the lockdown, and part of the recovery will involve inflation. How well placed are engineers and technologists to ride out the chaos?

Economists used to model their systems like engineers designed refineries, with money flowing around piping, through valves, and in and out of tanks. It’s a handy metaphor, but it belongs in its time.

These days it might be better to update the model to our understanding (or lack of it) of quantum physics. Schrödinger’s cat makes for a good model of the global economy because right now it is both alive and dead at the same time and it’s going to be a while before we open the box and find the definitive answer.

However you measure the effect of the global lockdown, the economic losses of the last few weeks have been colossal. Sales tax measures suggest a near 50 per cent drop; overall taxes point to 28 per cent, while CO2 emissions show an 18 per cent drop off. So even with a stunningly strong recovery, the net loss to tax revenues in the UK will be hundreds of billions. If the budget is not slashed – and the government has promised it won’t be – those losses will balloon into a bigger and bigger national debt.

The upshot of all this is that the UK, and for that matter pretty much every country on Earth, is going to balloon its public debt to levels that will make a mockery of previous attempts at controlling expenditure so that, for example, the UK’s finances next year will look like Italy’s national debt of last year. All those economic benefits of those years of ‘austerity’ have gone up in smoke in a few short weeks.

While the UK and Europe have been working flat out to ameliorate their economic woes by exploding their budgets into a series of bailouts, the US has gone ‘all in’ on a scale only matched by World War Two budgets and it has boosted its money supply at an annualised rate of 100 per cent in the last three months, already banking in an over-30 per cent rise in M1 cash in that time.

As any of us who took GCSE or O-Level Economics will recall, a boost of money supply means a boost in inflation, unless more goods are made to quench the demand triggered by the boosted supply of buying power. Well it’s a certainty that fewer goods have been made during the lockdown, so a 30 per cent-plus increase in money supply in a few weeks has a South American hyperinflation ring to it. The US is also on the brink of monetising corporate debt the amount that added nine zeros to a German postage stamp in the 1920s. The Germans, if not licking their stamps, are still licking the wounds from that experience, which many blame for the rise of a certain moustachioed landscape painter to power.

Many economists disagree; they say that the money will be stashed just like the cash of the last ten years of QE. The money will be sequestered in ultra-valued bonds, stocks and houses and it won’t leak into the hands of the wider population to flush into a buying frenzy that will drive a price rise spiral. That sounds good until you realise that much of the stimulus has gone into the hands of the public in the form of boosted social security payments. The US unemployment payout has been increased by $600 a week, making many people temporarily better off on their sofa watching Netflix or punting stocks on the zero-fee stock trading apps, rather than in their old jobs.

It’s a mess, and to my mind it is an inflationary mess, with inflation being the only natural lubricator of the changes ahead for our societies.

Governments can’t afford deflation. Recoveries don’t happen quickly under deflation. The necessary redistribution of resources that has to now happen doesn’t pan out smoothly under deflation. Inflation is the classic path of governance under pressure when crisis strikes, it is the ‘get out of jail free’ card for rulers since antiquity. However, it is a crazy orthodoxy that inflation is ever so difficult to create, but you can discount that nonsense. If that isn’t a huge lie, someone needs to tell Iran, Zimbabwe and Venezuela.

A more nuanced version of the inflation lie is that inflation is caused by the expectation of inflation, and once sparked, it’s a self-fulfilling loop. That sounds credible until you ask how come they always have banknotes with more zeros to hand as hyperinflation strikes. As the monetarists that killed the inflation of the 1970s tell us: “Inflation is always and everywhere a monetary phenomenon.”

We are certainly entering into a period of monetary phenomena.

The next few years are going to be grim, but the strategy is the same as in every crisis. Stay employed, be working in the latest thing, buy assets when you see them super cheap.

Engineers and technologists are fortunately at the tip of the value chain and will miss the worse of what’s ahead, while Aesop’s grasshoppers are in for a pretty nasty surprise.

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