As stated, my outlook for the Australian dollar is ongoing gains into the low-80s this year. One of the key reasons for this is a falling US dollar. Via Societe General:
Jay Powell promised tokeep the punch bowl full, but it’s a low-key party thanks to stretched positions and Chinese New Year
Housing costs held US inflation at bay despite strong price increases in some areas (notably food). The 10 year Note auction came and went with barely any disturbance to markets and Jay Powell was resolute in his defence of monetary accommodation. Before thinking about thinking about policy normalisation, he wants to see a return to full employment, a recovery in the employment participation, notably in participation among prime working-age people and minorities. In other words, he wants broad labour market participation and full employment because until that happens, Mr Powell doesn’t think the Fed will have fulfilled its dual mandate.
This wont resolve the inflation debate. No sooner had I written that TheGreat Demographic Reversal is my current favourite book on inflation(superseding the Great Machine Age,which captures the single biggest argument on the other side of the debate), than Bloomberg’s John Authers discussed the book as part of the Bloomberg Book Club. Manoj Pradhan (who wrote The Great Demographic Reversal with Charles Goodhart) thinks that the pandemic will, more likely than not, bring the return of inflation closer than he previously believed. Others are sceptical of that view, but the consensus, it seems to e me, is firmly of the view that it’s the labour market which holds the key to inflation.
The central premise of the Pradhan/Goodhart book,that an explosion in the global labour force since the Soviet Union collapsed and China entered the global economy provided a very powerful disinflationary force for the global economy and is now waning, seem indisputable to me. Just as the Brynjolfsson/McAfee argment that a techological revolution is having a huge impact on the nature of work, and on inflation, seems obvious. So the technological revolution continues, while the big surge in global labour is behind us. Higher inflation is coming–but not quite yet.
Nowhere does this debate touch on asset prices, monetary policy, or indeed, money at all. But the monetary implications are still clear, from the fall in central bankers’ estimates of neutral interest rates relative to nominal growth, and in the preference, almost everywhere for currencies to be weaker rather than stronger (because who needs a strong currency now?).
If I learn anything from The Great Demographic Reversal it’s that while we have been able to enjoy a really long period of cheap non-inflationary money, we won’t be able to forever. And the downside of having neutral rates so low is that it has encouraged an explosion of debt and repriced asset (equities,houses, etc) to what we think of as new equilibrium levels which are anything but equilibriums. And Mr Powell, with a pandemic to fight, really isn’t concerned by such considerations at all. He will go on providing the cheap money markets want. All we can usefully do in the meantime is sell the dollar and be grateful that the reckoning is years rather than months away, while fretting about the speed of the dollar’s decline and the size of some of the short positions in the market. Today sees US claims data, and not a lot else. Asia is settling into the Chinese New Year lull, and Europe is watching rangey markets. But oil and commodity prices are strong enough to keep me interested in AUD, CAD, NOK et al, while GBP/USD continues to edge closer to 1.4. It’s slow, but the dollar’s still falling.
That’s a pretty good summary, I think, though part of China running out of labour is that it is forced to restructure towards higher-valued added and less commodity-intensive growth, a driver that will return as the year deepens, so long as the pandemic is contained.
That’s another wave of deflation in the works, via commodities.
There is one other risk. If the US seriously outperforms Europe this year owing to much more aggressive fiscal, monetary and vaccine support, leading to higher relative inflation and yields, then the turn higher for DXY as EUR rolls will come earlier and so will the AUD peak.
