Chapter 1: What is the main topic discussed in this episode?
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I'm Mark Lister, Investment Director at Craig's Investment Partners, and I'll be talking about a range of topics including economics, portfolio strategy, investor education, and anything else that's happening out there in financial markets.
G'day team, hope you're all well. Today I wanted to talk about stagflation because that has been back in the headlines over the last few weeks as we've got this oil price shock that threatens to push inflation back up and at the same time it could take a big chunk out of economic activity. Now stagflation is a term that they use to describe a particular set of economic conditions. Low growth or
high unemployment, but also high inflation. It is a highly undesirable combination. We've seen our Reserve Bank here in New Zealand suggest that our inflation rate could hit 4.2% in the June quarter. That's more than double the 2% midpoint of its target range.
while the IMF, the International Monetary Fund, recently released a scenario that sees global inflation at 5.4%, and an even worse scenario that sees it above 6%. So those are just potential outcomes. They're not predictions from the IMF, but they would go hand-in-hand with a fairly bleak economic outlook.
now when we think about stagflation the most well-known period where we saw that was the 1970s and that was a decade that was terrible for investment returns u.s shares corporate bonds and real estate all posted respectable but below average annual gains of between five and seven percent over those ten years so five to seven percent per annum over that decade through the 1970s
None of those kept pace with rampant inflation. Inflation averaged 7.4% over that whole decade. So in real terms, inflation-adjusted terms, investors actually went backwards and made no money. In fact, they lost money. They lost purchasing power. It was even worse here in New Zealand. Our inflation in the 1970s averaged 12% per annum.
12% for the whole decade if you go point to point from the end of 69 to the end of 79. Now that outpaced the local share market and it eroded a whole decade's worth of house price rises. There weren't many places for investors to hide through this period. Gold and commodities were two of the only things that performed well
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Chapter 2: What is stagflation and why is it relevant today?
The 60s were a good decade for the US economy. But fast forward to 1974, and inflation had surged to 10%. The central bank policy interest rate was almost 13%. Unemployment had risen from in the threes to almost 9%. and the US economy was in recession. So it was a really tough time for everybody, including investors.
I guess if you were lucky enough to have money to invest at that time, you were doing better than most. But it was a really challenging time, the 1970s. Here in New Zealand, we suffered a similar fate, but we were already hurting from falling wool prices and a sharp devaluation in the Kiwi dollar.
Remember back in those days it wasn't floated, it was sort of government controlled, so they chose to devalue it when they thought they needed to, and we'd just seen a big devaluation. That had made imported fuel even more expensive. And on top of that, we had to contend with our major export market of the time, which was Britain, joining the European Economic Community. That happened in 1973.
And that effectively excluded us from the British market, which was our biggest export market at the time. So our share of exports that went to Britain fell from 43% in 1960 to less than 15%, which is a massive change over 20 years, from 43% to under 15%.
Now, to be clear, the 1970s were a really unique period and we are a long, long way from that today despite fuel prices that have been much higher and despite fears that we will potentially see a broader inflation spike. However, the current situation definitely bears monitoring. We do have to keep an eye on this.
There aren't many winners from a weakening economy, especially if you've got stubborn inflation at the same time, because that can really leave policymakers like the Reserve Bank or the Federal Reserve in a bind. Now, a central bank typically would start reducing interest rates in response to that slower economic activity, that higher unemployment, those recessionary conditions.
But if it sees inflation pressures on the horizon, sometimes it is forced to do the opposite. So we need to keep a close eye on firms' price setting behaviour, whether they try and pass on all of the higher costs that they might be seeing. We need to watch wage demands from workers. And it's one thing to demand a higher wage, but it's a different thing to get it.
So we're not necessarily in the environment where workers will be able to hold their employers to ransom. So that's something that is quite different to those periods in the past. But we still need to watch those sorts of things. And most importantly, we need to watch how central banks will deal with these conflicting signals.
You're seeing talk out there that the Reserve Bank might increase the OCR as early as July. Personally, I can't see it, and I don't necessarily think that would be the right move. I do have a bit of sympathy for the Jared Kerr view from Kiwi Bank at this point, but we still need to keep an eye on all these sorts of things. The 1970s were a great decade for music. It was groundbreaking for cinema.
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