Higher consumer prices are here. Is deflation dead?

With China starting to raise prices, the times they are a’changin’.

It’s been the story of the past 20 years at least. With economies like China (and others such as India) fully embracing the global economy, all of a sudden (well, millennially speaking) the planet’s global labor capacity surged and that led to a huge downward pressure on labor costs. China became the world’s factory and kept its export prices low, leading to the oft-used soundbite that China has been “exporting deflation.” Now, though, that might be changing.

With commodity prices almost doubling over the past year, input costs have risen dramatically. Add that to the lingering trade-war tariff fall-out, supply-chain bottlenecks (the catastrophic traffic jam in the Suez Canal almost a literal example!) and a global shipping container shortage, Chinese firms are now increasing prices on their exported goods. As an example, the Bangkok Post reports that Resysta AV, an outdoor furniture manufacturer based in the southern Chinese city of Foshan, plans to raise prices by around 7% on new orders this summer. With many economies anticipating a post-lockdown boom in consumer spending, it seems very likely that consumer prices will accelerate higher this year. But does that mean deflation is dead?

Well, when it comes to consumer price inflation, the major fundamental factor as to whether the current acceleration has legs boils down to employment costs, i.e., wages. If wage growth is strong, input costs soar and prices rise. If, on the other hand, wage growth is subdued, then consumer price inflation can be subdued. Wage growth depends on employment and, without collective bargaining, even with relatively full employment wages can be kept low. But wait, what’s this? Has anyone else noticed the story about Amazon employees galvanizing a trade union? Wage growth developments will be a key factor over the next few months.

So much for consumer prices. What about the true, monetary and credit, definition of inflation and deflation? Well, according to BofA Research, real assets (such as commodities, real estate and collectibles) are the cheapest they have ever been relative to financial assets (such as large cap stocks and long-term government bonds). Thus, a growing number of people are expecting that situation to reverse. The periods when that has happened in the past, though, have been 1940 to 1950, 1965 to 1980 and 2000 to 2010. Those were not exactly periods of stability in any arena, not just finance. And with real estate and collectibles especially in a manic phase, does a reversion to the mean imply an even bigger deflation of stocks and debt-deflation in bonds, rather than a continued advance in real assets?

The answer my friend, is blowing in the wind, but following Elliott waves will keep you on the right track.