On the brink of recovery: can we afford to lapse into old habits?
In spite of higher prices, I see signs that we need to go further on our journey to full recovery. That could change if the political elite lapse into their old habits and make the same mistakes.
The only thing you need to know about the market is if it’s going up or down. Nothing else matters except whether it will travel sideways. Sideways is what we're looking at because the West can't afford austerity. Without austerity, you get elevated inflation but not an economic depression. With austerity, you stop inflation but get at least a deep recession
When it comes to economics, there is a kind of economic gravity that applies when dealing with wealth. The loss of wealth in Covid can be rebalanced by either a horrible acute shock that brings down economic activity or by a grinding chronic loss of buying power brought on by inflation.
If you were a politician, which would you prefer to deliver? Regardless of politics, would you be for a flood that wrecks indiscriminately in an uncontrolled economic disaster or do you think the medicine should be dripped in and tweaked so that the weak members of our society, the elderly, infirm and young are protected from it?
I do not have a personal stake in the issue, but I believe that chronic is better than acute for most people. So, I think that the government's approach of turning acute problems into chronic ones is ideal for the majority and so I support it.
There is a large group of people who believe that medicine should be taken and that it must taste bad to be good. These are mostly conservatives, and we can see in the media a group of grumpy old men who are eagerly predicting an Old Testament outcome.
The economic equivalent of a biblical Sodom and Gomorrah comeuppance is not going to get anyone re-elected.
In the U.S., there could never be a path like this. Austerity is no longer on the agenda, but in the U.K., the ruling conservative party still has an atavistic tendency in its "hang ‘em and flog ’em" DNA, which is to take a severe old school approach of hacking back the economy to weed out the weak, hoping that things will grow back stronger.
The current civil war in the U.K. ruling party is driven by a fundamental disagreement between two groups: one that wants to take the bitter economic medicine now and reset, and another that thinks it's better to balance inflation and recovery in order to manage the outcome of lost wealth.
The old school are willing to lose power if they "do the right thing", but they still feel that "moral hazard" is a real problem. The other half sees an even bigger moral risk in allowing the other side to join with their much larger agenda of crowd-pleasing policies.
Investors are faced with the same decision. Do they expect a crash or a sideways trend where share prices don’t rise or fall too much but inflation erodes their value? In the crash mode, investors should sell for the crash and buy back after the dust settles; in the chronic sideways trend scenario, investors need to stay in and try to pick stocks.
In the crash scenario, there is certainly a lot of damage. In the sideways scenario, we are close to the bottom already.
Which is it?
Boris Johnson's departure should be a sign. If he is replaced by an economic hawk, it will be the end of the U.K. stock market and might indicate that western governance will follow suit. This seems unlikely to me, but never underestimate politics' capacity for chaos. If he is replaced by someone who is a dove, then the obvious, "kick-the-can" scenario will prevail.
My money is still on the long road to recovery with high inflation, but that could change if the political elite lose their minds again and that's never a far-fetched possibility.
