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  • Thoughts on the Market

The Case for the Return of Inflation

With Andrew Sheets

Why would inflation rise since the current recession means an acute shortage of demand for goods and services? Chief Cross-Asset Strategist Andrew Sheets explains.

Each week, Chief Cross-Asset Strategist Andrew Sheets, or a member of his team, offers perspective on the forces shaping the markets as well as insights on investment opportunities and risk across global asset classes.

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Current Episode Transcript

Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross Asset Strategist at Morgan Stanley. Along with my colleagues, bringing you a variety of perspectives, I'll be discussing trends across the global investment landscape and how we put those ideas together. It's Thursday, May 21st at 2:00 p.m. in London.

365体育投注网站At the moment, there's understandably a great deal of focus on what's happening in the here and now. But I wanted to talk today about a growing debate over the longer run picture. As one looks past this year and into 2021 and 2022, current market pricing implies a very weak recovery and an extended period of unusually low levels of inflation. But is that right? Our economists at Morgan Stanley think that that's too pessimistic and that the odds of a higher inflation outcome in the coming years are larger than the market expects.

365体育投注网站When we say higher inflation, I really want to stress that we envision a scenario where inflation rises to, say, 2 or 3% in the United States, rather than anything like the inflation levels that existed in the 70s or the 80s. But that could still matter given that the market is expecting U.S. inflation to average just 1.1% over the next decade, and stocks that usually benefit from an uptick in inflation have been significant laggards.

365体育投注网站But how could inflation rise given that the depths of the current recession mean that there's an acute shortage of demand for goods and services, which tends to push prices down, not up? Well, we think it could be a few things.

The first is that we think U.S. and global growth will recover-- slowly this year, but more so in the years that follow. Our economists expect U.S. and global growth to return to pre-coronavirus levels by the end of next year. A forecast that we think still assumes a very gradual pace of normalization and that is aided by an unprecedented level of government and central bank support.

365体育投注网站Moreover, life after social distancing could see what I'd call "makeup demand." From an extra scoop of ice cream to a few extra days of vacation, the temptation for people to try to make up for what they feel they've been missing out on could be very real. And that extra demand can meet an economy without extra supply. Some of the neighborhood ice cream shops will have shut down. New hotels aren't being built. The ones that remain, faced with more demand, might be able to raise prices.

365体育投注网站Finally, the bond market continues to give governments a green light to do more to avoid a weaker, more deflationary outcome. Borrowing costs in the U.S. remain historically low, for example, despite record deficits. We think these incentives matter and note recent headlines that suggest more fiscal easing, by both the United States and the Eurozone, that may be on the way.

365体育投注网站For markets, history suggests that it's often best to be more optimistic when growth and inflation are undershooting their recent trend, as is the case today. In turn, it can be wise to be more cautious when inflation starts to overshoot. That may be a risk for the future, but it's not one that we think applies yet.

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