Chart of the Day: Is China about to Unleash an Inflationary Tsunami in the US
The comments below are an edited and abridged synopsis of an article by Tyler Durden
Two months ago, Durden said that the most important question was what comes after the historic liquidity tsunami that will see global central bank balance sheets hit $28 trillion next year: inflation or deflation?
This question is even more critical today, yet it provokes even more market confusion that can be seen in the record divergence between real rates (at record lows) and inflation expectations (soaring for the past three months).
The answer to this question that will define the global monetary system for the foreseeable future is found not in the US, but rather in China. A chart (included) shows the uncanny correlation between China’s credit impulse and US reflation, as measured by CPI-adjusted real rates.
After two years in which China’s credit impulse was negative, Beijing has stimulated the economy via fiscal and monetary pathways just enough to push the credit impulse not only into positive territory, but also to the highest level since 2017.
There is a 12-month lag between China’s credit impulse and US real yields that determines virtually everything from the price of gold and stocks, to the value of the dollar, to nominal interest rates.
If the correlation is maintained, we can conclude that within the next 6 to 9 months, US real rates will soar by roughly 150bps, which (assuming breakevens remain unchanged) will push 10Y yields north of 3%, a level that will certainly lead to a market crash.
Why should ordinary equity investors care about any of this? Because of China, consumers and inflation all putting upward pressure on bond yields, which is what will end the bull market.
In addition to the positive feedback loop sparked by the Fed, the announcement of a Covid-19 vaccine could be the reflationary event of the century.
Judging by the reflationary tsunami that has been unleashed by China, no matter who wins the US presidential election in November, 2021 promises to be a very hot year indeed.