RBA Joins “Let Her Rip” Club

On Friday we showed you 2 charts that nicely sum up the quite extraordinary extent of massive monetary and fiscal stimulus, i.e. newly created currency; compared to zero new gold discoveries, i.e. newly created real money.

On the same day we saw media reports hidden away from the front pages behind house fires, cute kittens etc of our own central bank, the RBA having flagged a major change in monetary policy in this country.

Our RBA, like most central banks, have historically been institutions charged with the task of containing inflation to acceptable levels.  Since the GFC they have become tasked with creating it, a task outside of their learned remit and one arguably they have failed miserably at.  Old habits and expectations die hard and hence to date they have moved pre-emptively at the mere sign of inflation and moved to tighten policy.  We most recently saw how spectacularly that failed when the Fed tightened from 2017 into the crash of late 2018.

In fairness they know that at some stage all this newly created money they have created since the GFC will one day turn to inflation and likely in a large and potentially violent way.  The quantity we are talking is unprecedented.

Gold and silver took off post GFC as the market saw all this money printing by central banks around the world as inflationary and took their sensible positions in precious metal accordingly.  But what became apparent in 2011 was that it was not playing out in a normal ‘CPI’ kind of way.  Indeed the only thing that appeared to be inflating was the US sharemarket.  “Don’t fight the Fed” became a trade and they dumped gold and silver and piled into shares.

In 2017 the Fed saw this runaway sharemarket as a sign of improvement and hence started raising rates.  The heroin was being withdrawn from the junky before the junky was ready.  Shares subsequently crashed and the Fed dropped rates like a school case.

Fast forward to 2020 and we have a pandemic that is both choking supply AND demand and hence deflationary pressures unlike anything we have seen in a lifetime.  Nothing the RBA or Fed are doing seems to be making any difference to Main St, just still Wall St, and even then, nearly all in the FAAMGs.  And hence the RBA last week coming out and saying:

“In terms of inflation, our forward guidance has been forward-looking – we have focused on the outlook for inflation, not just current inflation. This was a sensible approach when the inflation dynamics were relatively stable and well understood. In today’s world, things are much less certain. So we will now be putting a greater weight on actual, not forecast, inflation in our decision-making.

“In terms of unemployment, we want to see more than just ‘progress towards full employment’. The Board views addressing the high rate of unemployment as an important national priority. Consistent with our mandate, we want to do what we can do, with the tools we have, to ensure that people have jobs. We want to see a return to labour market conditions that are consistent with inflation being sustainably within the 2 to 3 per cent target range.”; and

“The Board will not be increasing the cash rate until actual inflation is sustainably within the target range. It is not enough for inflation to be forecast to be in the target range. While inflation can move up and down for a range of temporary reasons, achieving inflation consistent with the target is likely to require a return to a tight labour market.

“On our current outlook for the economy – which we will update in early November – this is still some years away. So we do not expect to be increasing the cash rate for at least three years.”

In other words, just as the Fed announced with its AIT policy (we explained here) in August, the RBA is going to ‘let her go’ for a bit so they don’t mistakenly pull things up too early.  The trap is obvious, and that is runaway inflation given there is just so much built up new money in the system.

The inflation trade in gold post GFC never played out because it was largely a central bank exercise that saw the money inflate financial assets not everyday items that would spur on wage growth etc.  The rich got richer and the rest got left behind.  This time we have the effects of the pandemic and the focus turning to fiscal spending rather than the toothless jawboning of the central banks.  That is the game changer and the RBA just told us they are going to wait to see the whites of inflation’s eyes before they tighten.

What no one is talking about is the dual threat of them being ‘too late’ but maybe more importantly, what happens when you have to aggressively raise rates to slow it down when you have that unprecedented amount of debt in the system.  The debt created to kick start the economy and jobs is ‘fine’ now at zero interest rates.  How do you service it when rates surge?  You can’t.  Ironically, you need that high inflation to inflate it away in effective terms.

Smart money is still piling into gold and silver.  They are not doing this because they are ‘scared’.  It is not a knee jerk reaction.  Smart money is reading this macro playbook and they can see that yes we will have deflation first, but that deflation is just going to see a doubling down on stimulus from both governments and central banks alike.  The inevitable inflationary outcome looks set in stone.