“Three decades of chronic disinflation has created a strong conviction that inflation is dead,” says James Paulsen of Wells Fargo. In the 1970s US inflation rose at 7.1% a year on average; in the past five years, the annual rise was just 1.8%. Now, as the global economy seems to be sputtering, the US Federal Reserve has postponed its first interest-rate rise in almost a decade. The last thing anyone is worrying about is inflation. But what if the consensus is wrong?
It wouldn’t be the first time. “People think that it won’t reappear… that makes me a little nervous,” says Michael Arone of State Street Global Advisors. Fear over China seems overdone and the US economy is recovering. The recent disappointing American jobs report is likely to be due to “a rising proportion of vacancies [going] unfilled because suitably skilled and experienced workers are in scarce supply”, notes Dr Peter Warburton of Halkin Services.
A tightening labour market should push up wages, stoking overall demand and price pressures. In the UK, private-sector wages are already climbing at 3.45% year-on-year, their fastest pace in 13 years, according to the Resolution Foundation.
It wouldn’t take much of an uptick to have “a seismic effect”, says Robin Wigglesworth in the FT. Bonds are very overpriced, factoring in stagnation and deflation. If “prices start to nudge higher” it would prove “painful” for bondholders. “What a hero you would have to be,” as GMO’s Jeremy Grantham puts it, “to believe inflation will never go back to 4%.”