You don’t need a sophisticated understanding of economics to see what’s on the horizon, says Dr Pippa Malmgren.
I interviewed Dr Pippa Malmgren the morning after a dinner at Claridges to celebrate the launch of her first book. I left at a very respectable hour. She stayed out for rather longer: her evening ended with dancing in a nightclub rather than talking macroeconomics in a staid hotel dining room. I wish I’d stayed. But if I had, I wouldn’t quite have been up to the job of interviewing the bundle of energy and ideas that is Malmgren.
We start by talking about the book, Signals. Why did she write it? Because, she says, from the president of the US down, people ask the same questions about finance and economics: “Will interest rates go up or down? Should I mortgage? Should I sell? What should I get paid for my skills?” It bothered her that so many people – even in serious “leadership positions” – found economics “so daunting… so heavily mathematical and technical”. So her first thought was to “put it all in plain English”.
The second was to help people see crisis coming. Malmgren saw “many signals that got me to sell my house and move my family into rental accommodation during 2007”. Others didn’t do the same because they weren’t trained to see the signals – just to look at the official data. So she wanted to “empower people to have a clearer understanding of what’s happening in the world economy” without having to rely on endless “data points”.
What were the signals? The book gives a list, but the one she points to is what she saw on the top floor of Bloomingdale’s. It was Halloween and she saw “hundreds of china sets in very gaudy Halloween colours”. It set her questioning spending trends: who are these people who buy china sets for one event a year? How big are the houses they’re stored in? How much does it cost to heat one of those houses? The signal told her “we’re spending more than we’re earning and at some point the music will stop”.
The Creme Egg test
One of the things that Malmgren has previously told me concerns her is inflation. Given that everyone else is worried about deflation now, I ask what signals she sees that point to rising, rather than falling, prices. The obvious one is that “we’re at a moment in history when every major central bank is doing its level best to create inflation. And history tells us: usually at some point this succeeds.”
But there are also “extraordinary examples of inflation unfolding right before our eyes. Only in recent weeks, Belarus has found the shop shelves stripped bare because inflation hit very quickly. Russia’s about to hit about 17% inflation; Argentina’s at 23%.”
The Federal Reserve reckons that’s not its problem, but the world is far too interconnected for that to be the case. “If you give away free money it has to land up somewhere.” In this case, US quantitative easing (QE) has landed in emerging markets and in property and stockmarkets. But that’s not all: “we have seen things like the price of proteins hitting all-time record highs”.
So it just isn’t true that the world is teetering on the edge of deflation. Note that even in industrialised economies, “one of the most interesting signals we see is something I might call ‘biflation’ and ‘shrinkflation’”.
A few weeks ago we wrote about shrinkflation in the magazine in the context of Creme Eggs: Cadbury has cut the number of eggs in a multipack, and downgraded the quality of the chocolate, but most retailers have kept the price the same. That means you pay the same, but get less. That’s an effective price rise per egg.
This is “much like what we saw in the 1970s”, says Malmgren. Then, too, manufacturers made “the packaging the same size but put less inside”. Look at your plate in a US steak restaurant and you will see the same thing: you’re getting less, so paying more per ounce. And there are real price hikes too: “Hershey’s raised the price of Hershey’s Kisses by 8% just a couple of months ago”.
Biflation is a slightly different idea: “where it feels to people, even in the US, like everything that’s mandatory is going up in price, and everything that’s discretionary is going down”. So even as the cost of an iPad falls, “your rent, your fare on the subway, your school fees, your college books, health care; all the things you have to have, those prices are definitely rising”.
A central bank might say that one offsets the other – but if the prices of things you need are rising, and those of things you don’t need are falling, the offset doesn’t feel so good. Talk to a policy maker or a banker and he’ll tell you there’s no inflation. But go to his house for dinner and “the only thing they can discuss is the rising cost of living” and the insanity of London house prices.
Can inflation cure deflation?
I ask if she feels this inflation is a direct result of QE spilling over into the real economies of America and the UK. She does – “I don’t think it’s coincidental that every sovereign wealth fund and pension fund that I’m dealing with is desperately trying to buy agricultural farmland” – but she also notes that as Sir John Hicks (1972 Nobel Prize winner and author of Causality in Economics) said, it is “almost impossible” to tie economic effects together.
The key point is that we are living in an environment where we have a contest going on between genuine deflationary forces and genuine inflationary impulses: “put the two together and you create real pain for the general public”.
This brings us to the only question that matters – for central bankers, at least – can inflation cure deflation? On this Malmgren is with Paul Volcker, “the Bruce Willis of the world economy”, and the central banker who saved us from inflation last time round. He reckons you can’t make “just the right amount of inflation… once you unleash it… you can’t control that outcome”. So what you get right away is just more volatility – and that is exactly “what we’re already seeing – volatility in different markets…off the charts”.
I ask if this conflict and the volatility it brings is likely to spill over into the real world – into social unrest and rising militarism. This is one of Malmgren’s big worries. The industrialised world has a huge debt problem. It is going to have to default.
“There are different ways you can default. You can say: ‘We’ll just never pay you back’, Argentine style. You can say, ‘I’ll pay you back a little later, a little less’, the Greek-style haircut. You can default on your own citizens and call that austerity. But all three of those are politically unattractive.” The best way is the one governments always choose: inflation. “That’s how the US paid for the American Revolution, the Civil War and Vietnam.”
But for America’s creditors this is “enemy action”. Not only are they going to be effectively defaulted on, but the policy designed to create the inflation is already “creating the conditions for price instability in the world”. Note how the oil price went through the roof when QE was announced, and collapsed “the minute that they announced it’s over”.
The result? Affected countries, such as China and Russia, feel they have to protect “their own citizens from the consequences” of US monetary action, so they are now “reaching for food and energy assets… way more aggressively than before”. So the Chinese want full control over the South China Sea, with its fish supplies and natural gas field finds, and the Russians look at Ukraine – the fourth-largest food producer in the world – in a new light. The same goes for the Arctic and its oil and gas. This is all part of what “brings geopolitics back onto the stage”.
Keep an eye on the Midlands
It doesn’t sound good – what might it mean for our investments? Two major things. The first is to be careful of governments. If Russia and China aren’t going to buy government debt, someone else has to. That someone else is most likely to be savers: pension funds and the like will be gradually encouraged to hold more and more bonds. That’s not a good thing when we have bond yields at a record low. “Where do we think these prices are going to go in the next ten years, when every central bank is trying to raise the inflation rate? I would say that loss will happen at some point.”
The second is to be careful of emerging markets. Price instability leads to social unrest, and we’ve seen that everywhere – even in Singapore, where it isn’t that easy to protest. There are likely to be more protests. Add to that the fact that much emerging debt is denominated in US dollars – with a rising dollar these places see their own currencies falling in value and their debt burden rising fast, “and let’s not forget, devaluation is inflationary”.
Any good news? Yes. First, that the manufacturing base of the emerging markets is beginning to shift out to two principal locations, “the Midwest of the US and the Midlands here in the UK. And I think, as an investor, we should be looking at these areas closely, because there’s a lot of innovation going on.” Second, that innovation is moving at an extraordinary pace. Malmgren crowdfunded her book on indiegogo.com. She raised the money she wanted faster than anyone expected, proving to herself that “tomorrow’s economy is being built today – and in unconventional ways”.
Who is Dr Pippa Malmgren?
Dr Pippa Malmgren studied at Mount Vernon College and the London School of Economics, completing her PhD in 1991. She began her career as a trade policy specialist at the Trade Policy Research Centre and the OECD, before going into investment banking at Bankers Trust (now part of Deutsche Bank) and UBS.
Dr Malmgren then became a financial markets adviser to George W Bush, serving on the National Economic Council from 2001-2002. During the time, she dealt with Enron and Sarbanes Oxley, as well the anti-money laundering provisions of the Patriot Act and economic risks from terrorism after September 11th. She now runs her own firm, DRPM Group, providing advice to firms, investors and policymakers. Her book, Signals, is self-published and is available on drpmgroup.com, priced at £17.