Photo: YouTube: Top Gun: Maverick trailer

By Michael O’Neill

The world has become a more dangerous place in 2022.  Even more so if you live in Ukraine.

 Gunboat diplomacy is the norm. China has fully militarized three of its man-made islands in the South China Sea to enforce its illegitimate claim to that waterway, and regularly sends fighter wings into Taiwan territory.

 Saudi Arabia is leading a coalition of  nine countries interfering in a civil war in Yemen.

Iran is flinging missiles into Syria and Iraq while attempting to negotiate a new nuclear deal.

The G-10 governments are facing rapidly rising inflation, and massive budget deficits following heavy-handed pandemic responses that crippled economies, supply-chains, and budgets.

None of that matters.   Investors are discounting the risks.

The S&P 500 index is a key benchmark used to measure market risk sentiment as it is said to capture the pulse of the American economy. That index has fallen 5.2% year-to-date but even with the loss the S&P 500 is still 20.12% higher than it was on December 30, 2020.

Chart: DJIA, S&P 500 and NASDAQ performance December 31, 2020-March 22, 2022


The S&P 500 performance is even more impressive when you consider that US inflation is at a 40-year peak, and the Fed is only beginning to address the issue.

Fed Chair Jerome Powell spoke about “ Restoring Price Stability” on March 21.  It is an important topic since the Fed exists for only two reasons;  promoting” maximum employment and stable prices.”

He said that the inflation outlook had deteriorated significantly even before Russia’s invasion of Ukraine. It wouldn’t be a stretch to assume that many analysts and economists slapped their foreheads saying a collective “doh! That’s what we have been telling you for six months.”

He said that forecasts were far off because “forecasters underestimated the severity and persistence of supply side frictions, which when combined with strong demand, especially for durable goods, produced surprisingly high inflation.” Some in the audience were heard to mutter, “gee, you only had two jobs.”

Mr Powell went on to cite examples of supply/demand imbalances including rising vehicle demand in the face of declining production from a shortage of computer chips.

He also said that forecasters expected inflation would cool in the second half of the year as the economy reopened and vaccines became readily available.

The bottom line is that Mr Powell, and his colleagues were totally and completely out-to-lunch with their inflation views.  Is that because their hefty government salaries left them out of touch with Main Street USA.  Perhaps they were too busy trading for their own accounts to bother analyzing data.  When private sector employees screw up, they are given their walking papers. Congress should have held Jerome Powell accountable and voted against his renomination.

Inflation is a major problem in Canada, and it is going to get worse. The Consumer Price Index (CPI) rose 5.7% y/y in February and that when West Texas Intermediate (WTI) oil  averaged $91.68 /barrel for the month.  Prices are averaging $108.16/b so far in March.

Bank of Canada Governor (BoC) Tiff Macklem is on top of the inflation risks. He said so, in his opening statement to the House of Commons Finance Committee, March 3. He identified three key elements to the higher prices; 1) demand for goods outstripped services at a time when the pandemic disrupted production. 2) Price increases seeped into a wide array of goods, exacerbated by rising oil prices.  3) the strength of the economic recovery in Canada.

What he didn’t discuss was the impact of massive government spending. Rising inflation was a by-product of Federal government spending which led to a $327.7 billion deficit in March 2021.  That deficit is projected to have narrowed a $144.5 billion shortfall in 2022, but inflation continued to climb.

It is going to get worse.  Justin Trudeau’s Liberal government have increased the Federal debt every year since 2015 taking it from $651.54 billion to $1.048 trillion in 2021.  They have run budget deficits every year as well.  A balanced budget is always in long term forecasts, talked about but never seen.

The de facto take-over of Jagmeet Singh’s NDP party means the minority Trudeau government is now a majority, and can tax and spend to their hearts content, at least until 2025.

That cannot be good for the Canadian dollar which appears to be punching above its weight due to the surge in WTI oil prices.

Source: RP

 Investors continue to treat the Loonie as a petro currency but that may change as the realize Canada does not have (or want) new pipelines to feed the export market. Furthermore, the government is committed to eradicating the industry and transitioning the economy from fossil fuels to windmills and sunshine.

Surging oil prices are a double edged sword.  A period of high prices risks derailing economic growth.  Welcome to the Danger Zone.