For the first time since the second world war, U.S. inflation could hit 15% in 2022, as a perfect storm of events creates massive price increases. So says Saxo Bank, in its “outrageous” predictions for the year ahead. But the logic it sets out in its latest report does not seem so far fetched.
Federal Reserve chair Jerome Powell believes millions of Americans will return to work and fill some of the 10.4 million open job positions as Covid-19 fades. “But this is plain wrong,” says Christopher Demik, head of macro analysis at the Denmark-headquartered Saxo Bank.
Early retirement has meant the U.S. workforce is much smaller after Covid. Other workers have realized they no longer want to work grueling hours for low pay. They are demanding a better experience: better job conditions, higher wages, more flexibility, and a sense of purpose from work. “The pandemic has created an awakening of workers,” says Demik.
Employers will therefore have to increase wages for less desirable jobs. These increases could hit the “unprecedented” double-digit mark. Combine that with all the other inflationary pressures, an energy crisis, and supply chain disruption, and suddenly things spin out of control.
In such a scenario, the Federal Reserve will try to react, says Demik. “But this is already too late. It has lost credibility.” Saxo Bank says U.S. inflation could go above 15% before 2023. The result will be extreme volatility in U.S. equity and credit markets as the Federal Reserve tries to regain credibility and shove inflation back into the single digits.
“We should not discount the fact that the severe mismatch between labor supply and labor demand has led to a rapid increase and broadening in wage growth,” says Oxford Economics in its latest U.S. research briefing, published last week.
However, the data analytics firm says that, in spite of these headwinds, PCE inflation will peak later this year, remain above 4% in the first quarter of 2022, and fall rapidly thereafter. Wage growth will peak at 6% in early 2022 before falling, which is far cry from the double figures predicted by Saxo Bank.Fossil Fuel Investments Soar As Cop26 Targets Are Ignored
With inflation persisting into 2022, policymakers are likely to “kick climate targets down the road,” says Saxo Bank. Again, this prediction is grounded in today’s realities. The energy crisis is already having a very direct impact on inflation. And this is not just about heating fuel, which the Northern Hemisphere needs more of at this time of year, but nearly all goods and services.
The availability and price of many oil-based fertilizers will push up the cost of agricultural produce in 2022, for example. The same goes for building materials, such as cement, which use fossil fuels in their manufacturing.
This is not helped by green taxes and environmental policy which make it both more expensive and harder to sell oil-based products. “The problem with this,” says Ole Hansen, head of commodity strategy at Saxo Bank, “is the fact that we need energy and we need metals in order to ensure that green transformation.”
Governments could intervene by “scrapping some of the restrictions on investments into these sectors,” he says. For example, red tape around oil production could be suspended for five years, and natural gas production for ten years, in order to both dampen inflation and allow the green transition to progress.
“Investors should maintain a pragmatic approach given the serious gaps between net-zero ambitions and potential outcomes,” says Frédérique Carrier, head of investment strategy at RBC Wealth Management. The Canadian bank warns there are massive challenges to the net zero ambitions pledged at COP26, not least funding.
William Nordhaus, a Yale professor and recipient of the 2018 Nobel Prize in Economics, estimates it would take between $100 trillion and $300 trillion in new capital on a global basis to reach net-zero emissions by 2050. Inflation could increase this estimate dramatically, forcing governments to delay, completely abandon all the climate pledges they made in 2021.
A Hypersonic Cold War Begins
In October, the Financial Times broke a ground shaking story: China tests new space capability with hypersonic missile. The test, which took place secretly in August, stunned U.S. intelligence. The Chinese rocket circled the globe before narrowly missing its target, flying under the radar in both metaphorical and literal terms.
This sets the scene for Saxo Bank’s next outrageous prediction: A hypersonic arms race. Already, the U.S. is scrambling to rework its hypersonic missile program, which is far behind China’s. Saxo Bank predicts India, Israel, and the E.U. will join the U.S., China, and Russia in developing hypersonic missile programs.
This would bring about a new cold war that is “not just between the U.S. and China, but with other players globally as well,” says John Hardy, head of FX strategy at Saxo Bank.
As more and more countries develop hypersonic missiles the ‘mutually assured destruction’ theory, whereby countries would not launch a nuclear attack for fear of immediate retaliation, becomes obsolete.
Until all of the world’s major powers acquire hypersonic missiles, an arms race will take place. There will be “massive insecurities about legacy, conventional and nuclear capabilities,” says Hardy. But there will also be a huge increase in defense spending similar to the last cold war. “We see in the financial markets space a scrambling for funding for companies that are involved in the hypersonic space.”
Unlike the last cold war, however, there is unlikely to be a battle for territory. Hypersonic missiles can circuit the globe, and therefore do not require a launch base in another country, like Cuba. Saxo Bank is keen to point out that these are not its official market forecasts for 2022. But investors might consider just a “one percent chance of these events materializing.”
Some investors are already ahead of them. Oil exchange traded funds (ETFs) which track oil producers and service companies have rallied in the last month, for example. And there are few with wealth who have not yet prepared for further inflation.
Predictions, even outrageous ones, are fickle. Saxo Bank does not have a great track record in seeing its predictions come true. Two years ago nobody was talking about a global pandemic sweeping the world, forcing people to stay at home, and casting economies into recession. That would just be too outrageous.
I am a freelance journalist with a decade’s experience covering business stories from around the world. When not reporting, I advise governments, businesses and billionaires about