Categories
Market Volatility
A focus on inflation
Flavio Carpenzano
Fixed Income Investment Director
Andy Budden
Investment Director

The conflict in Ukraine has delivered a commodity price shock similar to that of the early 1970s, shattering hopes that the inflationary uptick may prove to be transitory. As inflation reaches multi-decade highs, we analyse what is driving inflation across the world and consider what central banks need to do to get inflation back to target levels.


As we consider how inflation will evolve in the coming months and years, it is helpful to understand past inflation cycles and how they impacted investments.


In general, there have been four primary causes of inflation, some of which overlap (see table below):


  • Excess money supply growth – Too much money chasing too few goods. Money supply growth leads to more bank lending resulting in faster economic growth.
  • High resource utilisation rates – Utilisation rates going persistently above 80% has been the approximate historic dividing line between rising and falling inflation in the US.
  • Price shocks – Cost-push inflation may be driven by energy prices, other input price increases, supply chain disruptions or currency declines.
  • Inflation expectations – Inflation can be integrated into the economic system if participants start to assume that prices will always increase, usually via wage increases and long-term contracts.


Source: Capital Group

While there are sufficient differences in terms of the drivers and the market environment, it is difficult to make strong conclusions about what might happen in future periods of inflation. Inflation is complex and the drivers and effects have changed not only with each episode but also within the episode.


What does history teach us?


US consumer price inflation

Data as at 30 April 2022. Source: Bloomberg

A brief history of inflationary episodes


1966-70 – The early/mid-1960s was a period of accelerating government spending and accelerating money supply growth, which supported rapid bank lending. This caused consumer and corporate demand to grow at more than 6% p.a. for five years and ultimately led to resource utilisation exceeding 90%.


1973-75 – The Middle Eastern energy crisis drove oil prices up 184% in 1973-74. Companies were unable to absorb such a cost increase in their profit margins, so they passed this on to consumers. Since this was a period of high unionisation, wage increases accelerated, leading to rising inflation expectations.


1978-80 – Similar to 1973-75, except that oil prices almost quadrupled during 1980.


1987-91 – Increases in resource utilisation and the declining US dollar led to inflationary pressures. The spike in oil prices around the first Gulf War caused a further increase in inflation.


1999-2001 – Resource utilisation was high (evidenced by an unemployment rate below 4%) and oil prices almost tripled.


2004-06 – Monetary policy was highly accommodative, resource utilisation rose, oil prices went up almost four times and the US dollar declined.


2010-12 – Commodity prices increased and the US dollar declined.


2021-current – Pandemic-related fiscal stimulus fuelled very strong demand which exacerbated the impact of supply-chain disruptions caused by COVID-19 lockdowns. The recent surge in commodity prices from the Russia/Ukraine conflict has amplified the acceleration in inflation that we have been seeing globally. Both Russia and Ukraine are important food commodity exporters, with Russia and Ukraine accounting for roughly 30% of the world’s wheat exports.1 Russia is also an important exporter of nickel, palladium, and titanium.


1. As at 8 April 2022. Source: United Nations 



Flavio Carpenzano is an investment director at Capital Group. He has 17 years of industry experience and has been with Capital Group for one year. He holds a master's degree in finance and economics from Università Bocconi. Flavio is based in London.  

Andy Budden is an investment director at Capital Group. He has 29 years of investment industry experience and has been with Capital Group for 18 years. He holds both a master’s degree and a bachelor’s degree in engineering from the University of Cambridge. He is an associate member of the Institute of Actuaries. Andy is based in Singapore.


Past results are not a guarantee of future results. The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment. This information is not intended to provide investment, tax or other advice, or to be a solicitation to buy or sell any securities.

Statements attributed to an individual represent the opinions of that individual as of the date published and do not necessarily reflect the opinions of Capital Group or its affiliates. All information is as at the date indicated unless otherwise stated. Some information may have been obtained from third parties, and as such the reliability of that information is not guaranteed.