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Spectre of inflation rears its head over stock markets

Juliette RABAT and Ali BEKHTAOUI
·3-min read
While there are concerns that prices will surge as the global economy recovers, analysts point out that inflation remains well below the two percent targets of the European Central Bank and Federal Reserve

Rising inflation has spooked stocks and pushed up the cost of government borrowing, leading some analysts to wonder whether the long bull run on financial markets might finally be coming to an end.

An economic monster in the second half of the 20th century, inflation has not been a major issue for several decades.

But headline inflation in the 19-nation eurozone hit 0.9 percent in January -- a month after prices had fallen 0.3 percent -- mostly owing to a spike in energy costs.

And in a little over a week, the yield on benchmark 10-year US Treasury notes has climbed to 1.39 percent, the highest in a year.

That pulled the German 10-year rate, Europe's standard, to -0.28 percent, last seen in June 2020 and a level that nonetheless still shows investors are willing to take a small loss to lend Berlin money.

The reasons for the rises are multiple, including US President Joe Biden's huge financial stimulus plan, as well as improving global economic indicators, vaccine rollouts and falling infection rates.

Together, they suggest that upward pressure on consumer prices could increase in the months to come.

"There is tension on producer prices, with a leap in cargo costs on Chinese trade routes and strong pressure on raw material prices," noted Tangi Le Liboux, a strategist at the Aurel BGC brokerage.

He told AFP that energy prices could also pursue their current upward trend.

"US consumption could rebound faster than expected," Le Liboux said, adding that "the main question is whether this price hike will be temporary and limited in nature".

At any rate, the official inflation target of around 2.0 percent established by the European Central Bank and US Federal Reserve still appears to be some ways off.

In the US, consumer prices gained 0.4 percent in December from the previous month, but were just 1.3 percent higher on a 12-month basis.

In the eurozone, inflation entered positive territory in January after five months below zero.

Gita Gopinath, chief economist at the International Monetary Fund considers it "unlikely" that inflation will exceed the Fed's target on a prolonged basis.

- Crash risk warning -

But more than the yield increases themselves, which do suggest market expectations of future price hikes, it was the speed at which they rose that attracted attention.

"If there is a sudden acceleration in yields, that is when the markets might crash," Le Liboux said.

The market for sovereign debt has ticked along for months with extremely low rates.

"If the 10-year US yield continues to rise and the Fed leaves its key indicators unchanged, it will come under pressure and at some point could have its credibility called into question," the strategist said.

The US central bank has already indicated it could tolerate above-target inflation for a certain period without raising its benchmark lending rates.

But "if the markets begin to think the Fed is behind the curve or is getting it wrong", panic might set in because investors could begin "to anticipate that monetary tightening will happen faster than expected", he said.

Monetary tightening occurs when central banks raise lending rates to curb inflation.

Meanwhile, Jose Antonio Blanco, a senior asset manager at Swiss Life AM, was "a bit sceptical" about the sharp rise in sovereign debt yields.

Given unprecedented amounts of financial stimulus, inflation will eventually increase, but not this year and "probably not even next year", he said.

"Inflation potential can only come if there is an issue in terms of resources, in particular if there is more or less full employment and that something we are not seeing right now," Blanco explained.

Fed chairman Jerome Powell said earlier this month: "We are still very far from a strong labour market."

Nicolas Colas, co-founder of US financial data provider DataTrek, said: "We should expect 10-year yields to continue to rise -- they’ve been hibernating long enough."

But he emphasised that the current situation was considerably different to when the last global economic crisis began to ease in 2009, and "they basically doubled in six months".