The COVID-19 crisis has been a huge near-term deflationary shock with US inflation metrics plummeting in April. Yet, inflation uncertainty has spiked – beyond transient shortages, a rise in debt issuance and/or new costs from reconfigured global supply chains could drive future inflation higher. Nonetheless, the rapid technology adoption could soften the blow by boosting productivity, especially in education and healthcare.
The COVID-19 outbreak has completely altered our near-term economic and social landscape. It will undoubtedly also have many long-term societal and economic effects, which investors are trying to decipher in order to establish effective investment strategies.
One area of particular investor interest has been inflation. For many years, the challenge had been to actually bring inflation up to stated targets. However, investors now are pondering whether a different type of challenge lies ahead. This may seem odd given that the short-term impact so far has been clearly deflationary – intensely so according to the latest US data. Both headline and core US Consumer Price Index inflation slowed markedly in April. Although we are used to seeing big swings in the headline measure (largely driven by energy prices), the 0.7 percentage point deceleration in core inflation was unprecedented. The pandemic-induced shutdown in demand has decimated pricing power in a range of industries far beyond energy (Figure 1).
In light of this data, the recent spike in inflation uncertainty as measured by the New York Fed consumer survey (Figure 2) seems counterintuitive: shouldn’t expectations be converging lower?
There are two very good reasons why a rising inflation scenario is starting to be perceived as a higher probability. Consumers and investors alike are wondering whether the unpreceded amount of debt being issued by governments across the world to fight the pandemic-related economic stress would prove to be the proverbial straw that finally broke the camel’s back. For instance, the global savings glut is diminishing just as new debt issuance is surging, which is unsettling for anyone who is viewing inflation through the monetary lens. This likely has more than a little to do with the fact that gold has been shining much brighter of late.
The other plausible argument for higher future inflation goes back to what is often described as a process of de-globalization. After nearly three decades of continuous trade integration, shifting labor cost structures, the trade war and now COVID-19, arguments favoring a re-assessment of global supply chains are gaining ground. There is tremendous uncertainty and little agreement about the extent to which supply chains will actually change or how quickly. But a broad agreement is emerging regarding the direction of travel: toward less integration, more domestic production and shorter supply chains. This could mean supply chains moving to higher cost locations, which would in turn generate a degree of cost-push inflation that producers and consumers did not have to contend with for a long time.
We acknowledge these inflationary forces, even though the first will likely prove to be more significant for smaller and emerging economies that do not benefit from having a reserve currency. But we also acknowledge the fact that the COVID-19 crisis has triggered an unprecedented wave of technology adoption across a range of industries. Tendencies such as working, learning and availing healthcare from home are likely to be prominent features of a much more “virtual” future. And it just so happens that they speak to precisely those areas that had seen a higher-than-average inflation over the past decade (Figure 3).
The forced adoption of technology due to COVID-19 may prove to be an efficiency-inducing game changer for both the education and healthcare sectors, which could be highly disinflationary for years to come. Should this happen, the societal effects could be very beneficial in terms of equal opportunity (education) and improved fiscal and health outcomes (health services). We could add a multitude of private and government services to the list. There is a chance that the COVID-19 crisis could manifest itself as the ultimate example of creative destruction as societies emerge from the pandemic with a more efficient way of doing things, generating smaller environmental footprints. Yes, some firms will be caught in the fire and some industries will never be the same. But those remaining may very well reveal themselves to be far better and stronger.
The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without State Street Global Advisors’ express written consent.
The views expressed in this material are the views of Simona Mocuta through 19 May 2020 and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected.
All information is from SSGA unless otherwise noted and has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.
The information provided does not constitute investment advice as such term is defined under the Markets in Financial Instruments Directive (2014/65/EU) and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell any investment. It does not take into account any investor’s or potential investor’s particular investment objectives, strategies, tax status, risk appetite or investment horizon. If you require investment advice you should consult your tax and financial or other professional advisor.
Past performance is not a guarantee of future results. Investing involves risk including the risk of loss of principal.
The trademarks and service marks referenced herein are the property of their respective owners. Third party data providers make no warranties or representations of any kind relating to the accuracy, completeness or timeliness of the data and have no liability for damages of any kind relating to the use of such data.
Hong Kong: State Street Global Advisors Asia Limited, 68/F, Two International Finance Centre, 8 Finance Street, Central, Hong Kong. T: +852 2103-0288. F: +852 2103-0200.
All forms of investments carry risks, including the risk of losing all of the invested amount. Such activities may not be suitable for everyone. The information provided does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor’s particular investment objectives, strategies, tax status or investment horizon. You should consult your tax and financial advisor. All material has been obtained from sources believed to be reliable. The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without SSGA’s express written consent.
ETFs trade like stocks, are subject to investment risk, fluctuate in market value and may trade at prices above or below the ETFs net asset value. Brokerage commissions and ETF expenses will reduce returns. Standard & Poor’s®, S&P® and SPDR® are registered trademarks of Standard & Poor’s Financial Services LLC (S&P); Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC (Dow Jones); and these trademarks have been licensed for use by S&P Dow Jones Indices LLC (SPDJI) and sublicensed for certain purposes by State Street Corporation. State Street Corporation's financial products are not sponsored, endorsed, sold or promoted by SPDJI, Dow Jones, S&P, their respective affiliates and third party licensors and none of such parties make any representation regarding the advisability of investing in such product(s) nor do they have any liability in relation thereto, including for any errors, omissions, or interruptions of any index.
This website is issued by State Street Global Advisor Asia Limited and has not been reviewed by the Securities and Futures Commission ("SFC").