“The link between money supply and inflation is still very tenuous,” says Derek Tang, an economist at LH Meyer/Monetary Policy Analytics in Washington. “We may have a ton of money supply. But that’s not necessarily going to lead to a ton of inflation.”
Case for Inflation: Household Wealth
Spending may bounce back faster than it did after 2008, and drive prices higher, because a more aggressive policy response has cushioned the blow to household finances.
Propped up by central banks, stock markets have taken months instead of years to recover. Home prices didn’t take much of a hit. And lower down the income ladder, governments have provided substantial support to workers who got furloughed or fired. Fiscal stimulus, unlike the monetary kind, goes directly into people’s bank accounts -– where it’s likely to get spent.
All of this opens the door for what’s known as “demand-pull inflation,” according to Stephen Jen, who runs hedge fund and advisory firm Eurizon SLJ Capital. “Why shouldn’t final demand be robust when sentiment regarding the virus improves?” he says. “Companies with any market power to raise prices will likely do so.”
Case Against: Household Fear
Incomes may have held up through the recession, thanks to government intervention, but not all the money is getting spent. Savings rates have soared.
To be sure, that’s partly a function of lockdowns that left restaurants and bars shuttered, and air travel widely shunned. But even as economies reopen and consumers have more options, worries about health and work could mean they stay cautious.
“We’re clearly not back to normal in the short term until people spend the money that the Fed has created and the government has sent them,” says John Ryding, chief economic advisor at Brean Capital.
Case For Inflation: Loose Central Banks
One reason why many analysts expect higher inflation is simply because central banks, the guardians of price stability in the low-inflation era, are more willing than ever to let it rise.
The Federal Reserve is expected to make that official by announcing a new strategy that requires it to be more tolerant when prices overshoot, and refrain from preemptive interest-rate increases. The Fed’s focus is on “the disinflationary aspects of the current shock,” says Bank of America’s Bruno Braizinha. Even before any official change in the policy stance, it’s already “committing to keeping rates low for the foreseeable future.”
The European Central Bank has embarked on a similar review. Accommodative monetary policies have been tried before in the campaign to gin up some inflation, and fallen short. What’s new, according to Morgan Stanley economists, is that “central banks are now committing to make up for some of the lost inflation during downturns.”