Henry sticks by his views that for economies as well as markets the two big influences will be the US economy and geopolitical tensions. For the US the swing factor is housing, and there seems to be a much bigger downturn underway in the US than in Australia and the UK, where there are already positive signs of recovery.
On matters geopolitical, perhaps the most immediate challenge is how the US and its allies plan to extricate themselves from the civil war in Iraq. In the longer term, of course, there is the question of how to deal with the nuclear issue in Iran. Henry knows of no better source than the writings of our own Sir Wellington Boot, who has been a consistent pessimist. (Recall that a pessimist is an optimist with experience.)
Much has been made of Australia’s “two track” economy. Now the pundits are catching up with another duality — described by the ugly word “stagflation”. Henry agrees economic policy was “hellish” in the 1970s when two oil price crises were capped by mad domestic policies to create inflation with stagnation — hence “stagflation.”
Yesterday’s national accounts showed this same combination except that with the terms of trade still booming incomes are rising strongly despite near stagnation of national production. Meanwhile, inflation is rising and labour costs are beginning to rise at an alarming rate. And exports are weak, which is the clearest sign of an uncompetitive economy.
The bottom line is that the Reserve Bank will have to raise rates to a point where inflation is again subdued. With the Reserve having moved too little, too late, it now has to move more than it would otherwise like. It may not get to the point of being “hellish” but there will be a little heat.
If the US economy sneezes, reach for the Vicks Vaporub. And if the Middle East gets even more gruesome, reduce your equity exposure and prepare for a long economic siege.
Read more at Henry Thornton.