Markets have been propelled by a fairly simple story in the past nine months, split across two themes. First, market prices have been driven by the expectation that vaccination will once-and-for all allow us to put the virus in our rearview mirror, and secondly, that fiscal and monetary policy will remain primed for support. This story was always going to be challenged at some point in 2021 as vaccination programs reach their climax and policymakers inevitably begin to consider what degree of stimulus that is needed in a world not in the grips of a pandemic. And wouldn’t you know it; here we are. As far as the success of the vaccines is concerned, it is crucial to remember that the final path to a full reopening is as much a question of politics as it is about epidemiology. Indeed, at this point, I am inclined to believe that it is mostly about politics. This isn’t surprising. Cases were never going to zero—at least not as long as we keep testing at the rate we’re doing at the moment—and new variants were always going to elude the vaccines, one way or the other.
Read MoreIt’s been a week on the wild side in markets, though amid all the confusion and commotion the main story is simple. The uplifting vaccine news from Pfizer has invited markets to consider how a world without the virus looks like. Taking the initial reaction at face-value, this is a world basking in the glory of reflation—and accelerating nominal GDP growth—higher long-term interest rates and a sustained rotation from growth to cyclical and value stocks. Let’s start with the obvious point. There is now a chasm between those basing their world view on an effective vaccine, and the end of Covid-19, and those staring down the barrel of a still- uncontrollable spread of the virus, and associated lockdowns to contain it. As far as the economy goes, forecasters now have to pass Fitzgerald’s test for a first-rate intelligence. The near-term outlook for developed economies is not pretty, and as restrictions encroach on December, the Q4 GDP forecasts are sinking without a trace. We’re currently living in a start-stop economy. The question economists have to answer is whether this situation has to be assumed for 2021? It’s certainly possible in Q1 and Q2, but Pfizer’s news has thankfully made such an outcome less likely. The problem is timing and whether we have to be on lockdown-lite through parts of H1, as we wait for the ‘shot’. The best case scenario is that the population at large gets the shot in the first half of the 2021, but that’s a Hail Mary. Take it from me, a professional economist whose day job it is to put numbers on the state of economy over the next six- to-12 months, we don’t know.
Read MoreEverybody knows the feeling that they’re getting more than they bargained for, and I suspect we’re about to see a crack in the market narrative along those lines. Let me explain. From the point of view of those who believe the benefits of economic stimulus far outweighs its potential costs, the Covid-19 epidemic is a convenient amplifier. A strong cross-party coalition has formed in response to the crisis emitting a rallying cry for governments and central banks to throw caution to the wind and unleash an unprecedented wave of support and stimulus. Policymakers have done exactly that. The number is still going up, but somewhere along the lines of 20-to-25% of global GDP is now on tap, and that excludes the fact that central banks are, in most cases, pledging unlimited support via various liquidity and purchase programs. What’s not to like? As I have been at pains to point out in response to this benevolent consensus on the idea that because money is freely available, no one should want for anything, reality is complicated. It’s relatively easy to create liquidity. It’s much more difficult to make sure the money goes to where it is “supposed to,” and in any case, there will always be disagreement about who should get what, and how much. The current situation is a case in point.
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