The question isn’t whether inflation is back, it’s whether it’ll stick around

By Fergus Halliday

November 15 2021
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Growing inflation in the United States could have big consequences for Australian investors and consumers alike.

As central banks rev up their efforts to tackle rising inflation overseas, Australian investors may want to pay attention.

AMP Capital chief economist Shane Oliver told InvestorDaily that local investors should be keeping an eye on rising inflation on the other side of the Pacific, and specifically how central banks react to it.

“Higher inflation invariably means higher interest rates and higher borrowing costs,” he explained.

Mr Oliver said that rising inflation is a direct threat to share markets, noting that if interest rates are low, people are incentivised to put their money in shares and property.

“But if interest rates start to rise significantly because of higher inflation, that reduces the incentive to put money into shares, and other assets can be made for them,” he said.

In addition, Mr Oliver predicted that Australia’s reliance on imports means that higher inflation will push consumer prices upwards and hurt the margins of local retailers.

Of course, the long term effects of inflation on the Australian economy is largely going to be determined by whether or not it sticks around.

“If it’s just a temporary surge, then you’ve got to pay attention to it, but it won’t have a long-run impact on investment markets,” Mr Oliver said.

On the other hand, “if it’s a permanently higher rate of inflation, ultimately, we’ll see permanently higher interest rates which could have a negative impact on share markets and other assets,” he added.

While US consumer prices have recorded their largest year-on-year increase since 1990, there are clear differences that investors should keep in mind when it comes to thinking about the return of inflation.

Mr Oliver argued that the 1970s offered a better parallel.

“The 1970s was a period of very strong money supply growth and supply constraints, which led to permanently higher inflation or higher inflation for a decade,” Mr Oliver said.

“This time around, we’ve seen very strong money supply growth as part of signals efforts to get us through the pandemic. We’re also seeing supply constraints,” he added.

That being said, Mr Oliver said that modern expectations around inflation are a lot lower.

“Once we get back to work as the coronavirus gradually comes under control and production catches up, and people start spending more on services and goods, then the supply constraints should start to come under control,” he suggested.

According to him, this process could take six to 12 months.

Asked whether complacency around inflation may have contributed to its recent resurgence, Mr Oliver acknowledged the argument that, like generals, the central banks of the world are always fighting the last war.

“There is a bit of a risk of complacency on the part of central bankers finding the last war, but there’s also a risk that if they tighten too quickly, then they could end up returning us to deflation or disinflation,” he said.

Mr Oliver concluded that the return of inflation could be a regime change for global markets.

“We’ve been for the last thirty years an environment of disinflation, falling inflation and slowing wages growth, and we may now be going into an environment of higher inflation and stronger wages growth,” he said.

A recent report by Kardinia Capital said that Australia’s own uptick in inflation would ensure it remains a point of discussion into the new year.

“At the very least: if inflation expectations build, interest rates launch sooner, and bond prices continue to fall, then we should expect higher volatility in equities. Individual sector returns will diverge with winners and losers,” the report said.

About the author

Fergus Halliday

Fergus is a journalist for Momentum Media's nestegg and Smart Property Investment. He likes to write about money, markets, how innovation is changing the financial landscape and how younger consumers can achieve their goals in unpredictable times.

About the author

Fergus Halliday

Fergus is a journalist for Momentum Media's nestegg and Smart Property Investment. He likes to write about money, markets, how innovation is changing the financial landscape and how younger consumers can achieve their goals in unpredictable times.

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