The Bank Of England Says So

I predicted inflation on Forbes since well before it kicked in, whilst many were predicting deflation, and then when that was provably untrue they shifted to predicting transitory inflation.

My point was/is and remains this: Only governments cause inflation as inflation can only be caused by more money supply.

This is not some genius idea by me. It won Milton Friedman a Nobel Prize in the 1970s.

My stance has been that because of the huge economic losses caused by Covid and the fight to keep it from killing even more millions, the only way to bridge the economic cost would be inflation because that way there would be no acute economic meltdown and instead there would be a long-term inflation spreading of the loss of wealth over time across the board. The cost of living has not gone up, you just got poorer as the buying power of your money went down. Inflation is the tool to adjust to the loss of wealth we have all suffered from the Covid hiatus.

If governments hadn’t printed lots of new money, the economies of the world would have simple imploded creating horrific economic, political and social collapse. It doesn’t however stop the fact that the world, hence everyone, got a lot poorer. The bill is delivered via inflation. But even then the bill needs to be paid and the aftermath is big budget deficits, high and unsustainable debt to GDP ratios, but luckily they also get rebalanced by inflation. Up goes tax, up goes GDP, down goes ratios, budgets come down in real terms and because few understand what is going on, blame can be shifted.

The inflation grinder can only be switched off when ‘Debt to GDP’ heads for 80%, while budget deficits approach 3% on GDP.

If you stop printing new money today, inflation would vanish in a few months, but that won’t happen because the economies of the west and the world would go into a nose dive and create a horrific economic meltdown. Instead, budgets need to be slowly rebalanced, with debt to GDP levels reined with finesse and the way that is done through the magic of inflation.

This is also not a genius idea by me. It is the oldest economic trick in the book.

So my prediction before inflation took flight was that governments and their central banks would create 7-9% inflation, perhaps initially higher, for three to five years, creating all told perhaps as much as 100% inflation over the whole period of recovery, and say ‘It wasn’t me, I didn’t do it. It’s them, over there.’

This prediction has big consequences, but predictions are easier to make than being right.

Last week the U.K. Bank of England raised interest rates to 1.75%. This was meant to seem butch, but frankly 1.75% interest rates is historically the equivalent of zippo. The market didn’t care much. What was said, however, was truly fascinating. It went something like this:

• Inflation expected to rise to 13% in 2022 fourth quarter.
• Inflation remains at very elevated levels throughout 2023 (maybe 6.6%).
• Inflation to fall back to 2% target by 2024… (but maybe 3.4%).
• Recession coming.
• It wasn’t us, we didn’t do it.

So to me this is about as close to my prediction as you can get without crystal balls. Well, you might say what about 2% inflation in 2024? I would say as “the can” is already kicked 18 months out, all it takes is another can kick in a year or two and we get to the moment when inflation can/might/could be brought under control as if by magic.

Milton Friedman told a story about the hyper-inflation of the U.S. confederacy during the Civil War. That inflation completely halted for a few weeks before instantly taking off again. Why did it stop and start again? The Confederate printing press broke and took some weeks to get running again. This story illustrates why inflation is not some weird alien phenomenon and nor is this situation.

None of the above says this inflation strategy is a bad idea. It comes as standard that inflation is bad, but it is always the worst outcome of the choices ahead.

Wealth has been forever lost. We are poorer. That loss can be dealt in a short catastrophic comeuppance, which no one should want, or be filtered out over years by inflation. The latter is far more humane and far less likely to spin out of control and spark even worse situations. Given the choice I’d choose inflation because it delivers time to adapt. It is a lesser evil than delivering the economic consequences in a maelstrom of default, unemployment, bankruptcies and worse. Obviously doom-scrolling scenarios about the US and European economies are a thing, but we really want to keep those outcomes out of real life so elevated inflation gets my grudging support.

The bottom line, whether we like it or not, is elevated inflation is here to stay and as it represents a loss of wealth it will be hard to maintain our own, let alone increase it.

The way ahead is to be economically active and leveraged and with a home mortgage, most working people are. If and when a recession hits the move to make will be to buy hard assets that slump in value and lever up savings to take advantage of bargain basement assets when and if they come to market.

So the strategy should be to spend cash when you can, on hard asset opportunities when you see them, be that equities, property and anything that had, has and will have a market once the economy is back on track again.

That is a dicey balance between getting skinned on the buying power of your cash balances or getting skinned on buying assets temporarily hurt by recession. The key, however, is that while assets will recover if they weren’t bought at a bubble price, your cash will never ever regain its buying power.

The 1 yen coin used to be gold, it is now aluminum. The yen never recovered from its periods of inflation, but Japan’s economy did and huge wealth was created, so in the end in periods of inflation, cash is trash… and here we are.