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Will Inflation Cause the Market to Soar or Crash?

Most investors expect President Donald Trump to try to deliver on his promise to create jobs with massive infrastructure spending and re-negotiation of trade deals. Infrastructure spending will generate more economic growth in the USA and boost inflation. The US dollar has already advanced in anticipation of the Federal Reserve raising interest rates to combat Trump-caused inflation. Bloomberg writes about how Trump is seen spurring inflation.

The dollar advanced for a fourth day on bets that higher spending under Donald Trump’s administration will boost economic growth and inflation, convincing the Federal Reserve to raise U.S. interest rates.

A gauge of the U.S. currency climbed to the highest since February, extending its biggest weekly gain in five years, as President-elect Trump unveiled key administrative appointments in preparation for taking power in January. Thirty-year Treasury yields rose above 3 percent for the first time since January on expectations inflation will accelerate.

If we look at whether inflation will cause the market to soar or to crash it is instructive to look at the most recent period of sustained inflation, the 1970’s.

Stagflation

Investopedia writes about The Great Inflation of the 1970’s.

It’s the 1970s, and the stock market is a mess. It loses 40% in an 18-month period, and for close to a decade few people want anything to do with stocks. Economic growth is weak, which results in rising unemployment that eventually reaches double-digits. The easy-money policies of the American central bank, which were designed to generate full employment, by the early 1970s, also caused high inflation. The central bank, under different leadership, would later reverse its policies, raising interest rates to some 20%, a number once considered usurious. For interest-sensitive industries, such as housing and cars, rising interest rates cause a calamity. With interest rates skyrocketing, many people are priced out of new cars and homes.

In its attempt to control inflation the government raised interest rates. Retirees loved 14% interest on their CDs and the fact that their already paid for homes were going up every year in dollar value. But the Great Inflation of the 1970s wrecked businesses and played havoc with the stock market. It ended in an economic condition called stagflation, a combination of slow economic growth, high unemployment, steadily increasing prices and a decline of the nation’s GDP. To the extent that inflation is moderate the Fed can raise rates and help to control it. To the extent that it becomes a run-way phenomenon like forty years ago it will wreck the stock market and the Trump presidency.

Stocks in the Meantime

In the meantime how a Trump presidency will affect the stock market is probably to drive it up. A faster rate of economic growth will benefit many, not just those who get jobs in the infrastructure improvements. However, there is an issue with trade and treaties. Trump may believe that he can bring jobs in manufacturing back to the USA. The problem is that the consumer market is driven by people buying things. The Chinese have learned this to their dismay. You cannot just borrow, invest and manufacture. You need consumers and until the consumer market recovers that will not work.

Will Inflation Cause the Market to Soar or Crash? PPT





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