Inflation is like toothpaste: Once it’s out, it’s difficult to put back in

By TreasuryONE Senior Dealer, Andre Botha, and Macro Strategist, Neels Heyneke

As we enter 2022, we will carry over a bit of a hangover from 2021 regarding events and data that will impact the markets, and, in due course, affect the US dollar and the rand. At least in the early part of the year, most of the market will be keeping a keen eye on the US Fed, with the promise of monetary tightening and rate hikes very much the market drivers at the moment.

Last week, we had the release of the December Fed Minutes, and at first glance, the Fed came out a lot more hawkish than initially expected. We saw from the Fed minutes a three-pronged approach on how the Fed wants to tighten its monetary policy. Not only did they speak in favour of accelerated tapering of bond purchases and bringing forward the so-called lift-off of hiking interest rates, but even discussed steps to run off their portfolio by not reinvesting proceeds from maturing securities.

The jury is still out whether the market believes the Fed could implement these approaches, as the market thinks the Fed is behind the curve and will not hike as aggressively as indicated based on the strength of the US economy and current debt levels in the US. Markets are trading very cautiously, and we believe that the inflation number out the US this week will be essential for the market. Rampant inflation will, of course, force the Fed’s hand.

One essential data set that came out last week was the US non-farm number, and after the release, there was a lot of head-scratching. The robust number the market was looking for did not materialise. The headline number disappointed with the number printing 197,000 vs 447,000. However, the unemployment rate fell below 4%, and the hourly wages are higher than expected. Do we see a case where COVID relief caused many Americans instead stay unemployed, or that COVID relief caused an artificial jump in hourly earnings? We suspect a bit of both to be the case.

Speaking of COVID, we have seen the Omicron variant run like wildfire across the globe. Still, unlike the Delta variant, we have not seen the uptick in hospital admissions and fatalities. While this is a silver lining on an immensely dark cloud, the fact remains that economies are still under constant threat of lockdowns, which keeps the markets in a perpetual state of “risk-off”. This could hinder emerging markets, at least for the first part of the year.

On the data side, the main event of the week is the US CPI number. The market also expects a red-hot number with inflation breaking the 7% mark. This would be the highest print since 1982, when the inflation number printed at 8.4%. See below the inflation graph of the US, the last print for November was 6.8%:

Higher inflation numbers could see markets under pressure to force the Fed’s hand in the shorter term.

The rand has surprised over the last week, with many market commentators shrugging their shoulders as to the performance of the Rand given the latest sentiment after the Fed minutes and COVID numbers of last week.