LeapRate interview… Stavros Lambouris, CEO at global forex broker HYCM International, sat down with us to discuss the growing inflation, drawing comparisons with the 1970s and the recession in 2008, the current policy response and how all this changes the way traders make decisions.
LR: Inflation has been the topic on everyone’s mind in 2022; how do you view the situation, and do you see it changing retail trading behaviour?
Stavros: Inflation has indeed been a central concern for all of us in 2022, whether we are involved in the markets or not. The supply chain disruptions, monetary and fiscal responses to the pandemic, the surge in energy prices, and the conflict in Ukraine, have all contributed to the situation we’re in at the moment. But, we could actually see signs of it back in 2021.
The excesses we were seeing in 2021 in risk assets, the meme stock story and crypto, were all signs that there was too much money in the system. Unfortunately, it’s not just traders who can make the “this time is different” error, but policymakers can make it too. Coming out of a global pandemic, it was tough to anticipate market behaviour, hence the transitory narrative. I think the consensus now is that – in the US and the UK at least – the Federal Reserve and the BoE could have acted much earlier to rein in an overheating economy. Although, you could also argue that this is ‘hindsight bias’ and doesn’t fairly reflect the difficult situation.
As far as retail trading behaviour is concerned, volumes are up, partly due to how this broader inflation response is being reflected in currency markets. Before the pandemic, we were in a zero interest rate world for the best part of a decade without much in the way of policy divergence between the major central banks. Recently, we saw central banks embarking on rate hiking cycles at different times and at different rates, while Japan held firm to its loose monetary policy. This has led to increased volatility, which is what FX traders are searching for.
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LR: Many parallels have been drawn lately between inflation in the 1970s and today. What do you make of this comparison?
Stavros: I think the similarities are only skin deep, but I can see why the comparison is being made with 1970s stagflation. There was the Vietnam War, spiraling prices, fuel shortages, and then Fed Chair Paul Volcker came in to “break the back of inflation” with a series of actions that led to a rapid tightening of monetary conditions.
But even when looking at the US in isolation, it was a completely different place in the 1970s. At the time, the US dollar was going through a decade-long devaluation after President Nixon removed its convertibility to gold. Today the dollar is strong, many would say problematically so. Demographically too, in the 1970s the average age in the US was still under 30, today it’s over 40. It was also a much less indebted economy than it is today.
The same goes for the comparisons that are now being drawn between Jerome Powell and Paul Volcker. Beyond the obvious comparison of their hawkishness causing recessions in order to tame inflation, there is not necessarily much similarity between the two men. For one, the legacy of this current Fed is that every downturn is met with more monetary response for less overall benefit, and every upturn is allowed to run as hot as possible before tightening. These were not the policies of Volcker’s Fed.
LR: This brings us on to another word that seems to be on everyone’s lips right now. Are we in a recession and could this be a repeat of 2008?
Stavros: “Technical” is another word you may have come across lately, often preceding the word “recession.” We saw it a few years ago with the QE that was not QE, and last year when the inflation was only transitory. Technical or not, there are high chances that 2022’s slowdown will go down as a recession. How long or severe it will ultimately prove to be still remains to be seen.
Obviously, Europe is in a weaker situation than the US, which holds the reserve currency status. Europe’s position as a monetary union with no fiscal union also puts it at a disadvantage when it comes to addressing the social problems that are arising due to this inflation.
But I don’t think that what we have here looks much like 2008, which ultimately was a housing crisis that spilled over into the global economy. Particularly from the point of view of households, who are less indebted today than they were in 2008. This is true of both US and European households. 2008 was a major deleveraging, and households seem to be in a better way today than they were on the eve of that particular crisis.
LR: What do you make of the policy response we’re seeing to inflation?
Stavros: I think criticising central bank actions has become something of a sport for market participants, but the bottom line is that they have an incredibly difficult job to do with very limited tools and mostly lagging data.
Jerome Powell’s recent testimony before Congress was very interesting, if only because of how many times he had to remind the Congressmen and Congresswomen present, who were expecting him to opine on Biden’s policies, that all the Fed can really do is move interest rates and add or withdraw liquidity.
In their defense, the crisis we’re seeing now is a result of supply constraints. Central banks can only really increase or curb demand by their actions, not supply. Could they have acted sooner to pull in demand by tightening financial conditions? Certainly. Would it have been a popular decision at the time? I would guess that it would not have been. And that’s the problem; as polarised as politics have become, you have to think that, neither Trump, nor Biden, would have encouraged Powell to break the bull market when it was in full swing.
LR: From the perspective of a trader, how has the above changed the way that trading decisions are made and positions are put on?
Stavros: That’s a good question. I think the main difference for traders today, is that markets have become so accustomed to central bank intervention, that we’re seeing them reacting to the policy objectives of central bankers, rather than reflecting economic conditions. Stocks move in anticipation of Jerome Powell’s response to economic data, rather than to the data itself. One of the challenges of trading is to distinguish between the reaction to the Fed’s intentions and the true state of the economy.
Even the Fed’s recent removal of forward guidance doesn’t change this dynamic. Markets expect central bank intervention, and so will hang off every word, intonation, and micro-expression for clues as to what the next move will be.
At HYCM, we believe that, now more than ever, it’s important for traders to develop a broad general knowledge, rather than just sticking to their respective niches. This is another difference between today’s traders; they are most likely to be educated, up-to-date, and conversant in geopolitical news and current market sentiment. To level up their trading skills they can attend HYCM’s popular series of online webinars and workshops, as well as explore HYCM Lab blog, which is rich with live analyses and educational materials.
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