Show Transcript
Despite repeated assurances from the Federal Reserve that the current inflationary pressures are temporary, inflation fears continue to roil global equity markets. Kim Parlee talks with Michael Craig, Head of Asset Allocation at TD Management about investment strategies in face of inflationary threat.
Print Transcript
- A lot of people right now are much more focused on inflation as opposed to the pandemic in terms of what is the major threat to the market. Just last week, we saw inflation spike to 4.2%, well above the Street's expectations. And here to talk about what that could mean and what you should be focused on is Michael Craig. He's head of Asset Allocation at TD Asset Management. He joins me now.
Mike, great to have you with us. Maybe you could just kind of give us a bit of context to start this conversation off. Rising inflation-- why, first off, is that such a concern for markets and for people managing money?
- So inflation, on a longer-term sustained basis, is really toxic for all financial assets, fixed income equities. And ultimately it's the combination of eroding margins, reduced buying power. And really, it's a very bad symptom of an economy which is essentially telling you that the economy is unable to provide the goods or services demanded by society.
So on a longer-term basis, if there's one thing that can really upset markets, it's a prolonged period of inflation that's not able to be brought under control.
- Yeah, people have used those terms. And I think it warrants some discussion about what exactly they're leading to. When we think about episodic-- this has been a very weird recession on many counts. Typically as you go through a recession, people lose their jobs, demand shrinks because are people out of work.
This time around, there has been excess fiscal transfers, particularly in the US, to households. And so rather than having less money to spend, it's been they've actually have had more. So we think about demand in a society like a pitcher of water. On average, it's 20 ounces. Right now, it's more like 30. And you can see that through household savings rates.
On the flip side, on the supply side of the economy, on the goods that we buy, there's all kinds of things. But right now, because of lockdowns, there's not a lot of things that we can do. We can't go to a sporting event or dinner or travel or go get your hair cut in many parts of the world. And that just leaves buying things-- new cars, used cars, home renovations, et cetera.
So as a result, you have excess demand and fewer places to spend it. And so what we're getting is we're getting inflation in goods because there's a lack of-- A, we've got excess savings, and B, there's a lack of excess things to do. So you look on your street, you'll see a lot of home renovations maybe happening, a new car here and there. And that's just overwhelming the system.
So you're seeing material inflation in lumber, copper, agricultural goods, some building services, et cetera. And that's really what's the story right now.
- It's almost like you said that there's this money looking for a place to go and there's only so many places it can go. So let me back up one more step, then. When you look at this, I mean, what are the opportunities and what are the risks when this kind of inflation comes up?
- So in the near term, it's going to lead to, I think, to a bit of volatility. I think markets are expecting higher levels of inflation, even though when they come, because the measurement of economic data has been so challenging right now, we just really don't have a good handle on what's happening. No one's really kind of gone through this.
The numbers have been quite wild. And so as a result, the outputs are quite a bit higher. I think the key is that we're going to have a period of a bit of volatility next little while, next-- call it two quarters. As we get into the fall, the comparison effects are actually going to be much, much higher. So ironically, we're going to actually see lower inflation this fall because of where we're comparing it to last year.
And really, for us, where we're spending our time is, is this something that's sustainable longer term? And we would be in the camp that, no, we don't think that this is-- we think this is more of a shock, a passing thing. But the bigger drivers of longer-term inflation are just not there at this time. It could happen. But that's really a question about what policy looks like in the years ahead.
So let me ask you, then-- if, again, this is just a phase-- albeit, perhaps, an uncomfortable one we're going to have to go through if we get some market volatility-- what are you watching in the longer term?
- So things that I would think about that might drive inflation would be a real focus of wealth transfer. So if we start seeing policies of higher taxes and more and more wealth transfer, that's going to solve some problems and create other ones. At the peak, by the way, in 1979, 1980, at the peak of our last inflation area period, marginal tax rates were in the 70%, 80%, 90% around the world. I don't think that's going to happen. But that would be something you'd watch for.
ESG and climate change, I think, is an inflationary force you need to think about. We're not able to produce goods and pollute the environment anymore and just not really count that as a cost. And so that's going to-- that will likely change our consumption patterns. But that's something to pay attention to.
And then I guess the last would be kind of the threat towards globalization. That is certainly very much more of a geopolitical argument. And that's something, again, to watch for as we start to think about realigning supply chains closer to consumption.
On the flip side, there's two key forces that have kept inflation at bay for many years, and those will not change. One is societies are getting older. So as people age, they tend to consume less. The thing about that pitcher of water analogy I started with, that's actually making that pitcher smaller, because as we age, we tend to consume less.
The second is, make no mistake, the technology-- the technological revolution or the fourth Industrial Revolution that we're upon is going to really accelerate. And the amounts of technology that are going to be entering in kind of mainstream economies is going to be breathtaking. And that's a very, very disinflationary force. And that's something that cannot be underestimated. We see it every day, so we don't really maybe notice it.
But if you just step back and think about how you've changed your-- whether it's just buying patterns the last five years, how much different they are today. We're doing a video like this online. It really tells you how things have changed in the very short term. And that will continue on as new technologies are kind of integrated into the global economy.
That's a lot of moving parts. And I'm glad you're here to walk us through it, Mike. Thanks so much.
- Appreciate it, Kim. Have a nice evening.
[MUSIC PLAYING]
Mike, great to have you with us. Maybe you could just kind of give us a bit of context to start this conversation off. Rising inflation-- why, first off, is that such a concern for markets and for people managing money?
- So inflation, on a longer-term sustained basis, is really toxic for all financial assets, fixed income equities. And ultimately it's the combination of eroding margins, reduced buying power. And really, it's a very bad symptom of an economy which is essentially telling you that the economy is unable to provide the goods or services demanded by society.
So on a longer-term basis, if there's one thing that can really upset markets, it's a prolonged period of inflation that's not able to be brought under control.
- So I think the key, what you just said there, was prolonged. Because I think what we're hearing right now is this is episodic. This is something that's taking place right now because of the pandemic and shutdowns and those types of things, versus there's another camp saying, no, this is something we should be a little more concerned about. What do you think?
- Yeah, people have used those terms. And I think it warrants some discussion about what exactly they're leading to. When we think about episodic-- this has been a very weird recession on many counts. Typically as you go through a recession, people lose their jobs, demand shrinks because are people out of work.
This time around, there has been excess fiscal transfers, particularly in the US, to households. And so rather than having less money to spend, it's been they've actually have had more. So we think about demand in a society like a pitcher of water. On average, it's 20 ounces. Right now, it's more like 30. And you can see that through household savings rates.
On the flip side, on the supply side of the economy, on the goods that we buy, there's all kinds of things. But right now, because of lockdowns, there's not a lot of things that we can do. We can't go to a sporting event or dinner or travel or go get your hair cut in many parts of the world. And that just leaves buying things-- new cars, used cars, home renovations, et cetera.
So as a result, you have excess demand and fewer places to spend it. And so what we're getting is we're getting inflation in goods because there's a lack of-- A, we've got excess savings, and B, there's a lack of excess things to do. So you look on your street, you'll see a lot of home renovations maybe happening, a new car here and there. And that's just overwhelming the system.
So you're seeing material inflation in lumber, copper, agricultural goods, some building services, et cetera. And that's really what's the story right now.
- It's almost like you said that there's this money looking for a place to go and there's only so many places it can go. So let me back up one more step, then. When you look at this, I mean, what are the opportunities and what are the risks when this kind of inflation comes up?
- So in the near term, it's going to lead to, I think, to a bit of volatility. I think markets are expecting higher levels of inflation, even though when they come, because the measurement of economic data has been so challenging right now, we just really don't have a good handle on what's happening. No one's really kind of gone through this.
The numbers have been quite wild. And so as a result, the outputs are quite a bit higher. I think the key is that we're going to have a period of a bit of volatility next little while, next-- call it two quarters. As we get into the fall, the comparison effects are actually going to be much, much higher. So ironically, we're going to actually see lower inflation this fall because of where we're comparing it to last year.
And really, for us, where we're spending our time is, is this something that's sustainable longer term? And we would be in the camp that, no, we don't think that this is-- we think this is more of a shock, a passing thing. But the bigger drivers of longer-term inflation are just not there at this time. It could happen. But that's really a question about what policy looks like in the years ahead.
So let me ask you, then-- if, again, this is just a phase-- albeit, perhaps, an uncomfortable one we're going to have to go through if we get some market volatility-- what are you watching in the longer term?
- So things that I would think about that might drive inflation would be a real focus of wealth transfer. So if we start seeing policies of higher taxes and more and more wealth transfer, that's going to solve some problems and create other ones. At the peak, by the way, in 1979, 1980, at the peak of our last inflation area period, marginal tax rates were in the 70%, 80%, 90% around the world. I don't think that's going to happen. But that would be something you'd watch for.
ESG and climate change, I think, is an inflationary force you need to think about. We're not able to produce goods and pollute the environment anymore and just not really count that as a cost. And so that's going to-- that will likely change our consumption patterns. But that's something to pay attention to.
And then I guess the last would be kind of the threat towards globalization. That is certainly very much more of a geopolitical argument. And that's something, again, to watch for as we start to think about realigning supply chains closer to consumption.
On the flip side, there's two key forces that have kept inflation at bay for many years, and those will not change. One is societies are getting older. So as people age, they tend to consume less. The thing about that pitcher of water analogy I started with, that's actually making that pitcher smaller, because as we age, we tend to consume less.
The second is, make no mistake, the technology-- the technological revolution or the fourth Industrial Revolution that we're upon is going to really accelerate. And the amounts of technology that are going to be entering in kind of mainstream economies is going to be breathtaking. And that's a very, very disinflationary force. And that's something that cannot be underestimated. We see it every day, so we don't really maybe notice it.
But if you just step back and think about how you've changed your-- whether it's just buying patterns the last five years, how much different they are today. We're doing a video like this online. It really tells you how things have changed in the very short term. And that will continue on as new technologies are kind of integrated into the global economy.
That's a lot of moving parts. And I'm glad you're here to walk us through it, Mike. Thanks so much.
- Appreciate it, Kim. Have a nice evening.
[MUSIC PLAYING]
