Policy-Response to Coronavirus a Potential Inflation Trigger

I have expected a deflationary end to the current global financial system. Developed markets have been in a deflationary depression since 1989 (Japan) 2000 (Europe) and 2009 (USA). They all have similar demographic trends, debt trends, and overburdened pension systems. China is an outlier because it has plenty of room for growth, yet despite that has been loading up debt as if it's growth ended around 2011-2014. All of these nations/regions central bank have implemented similar policies.

My most likely scenario is China fails first. Smaller markets such as Brazil may lead, but China will be the first big one. The currency will devalue to bring the balance sheet into balance. Assets cannot support the current level of debt. Either asset prices tumble or the currency tumbles, but the structure of the Chinese financial system and the yuan's place in the global financial system means the former also leads to currency devaluation.

If China's currency devalues, other currencies such as the Korean won will tumble. This will eventually drag Europe and Japan into recession if their currencies do not decline. All of these currencies have to decline against something and unless the U.S. has organized a global devaluation versus an asset such as gold, the most likely "asset" they will all devalue against is the U.S. dollar. The dollar will then go through this process as its balance sheet is brought into balance.

There is always the possibility that central banks succeed in rebooting the system with inflation. That has been the goal for decades. Preserve the debt to avoid a deflationary crisis, and eventually inflationary growth will resume. The evidence says the more central banks intervene, the slower the economy grows. Some type of shock would be needed to spark inflation. In the West, my candidate was politics. Whereas Japan has accepted its fate for going on two generations now, Western voters turned nationalist within a decade. The U.S. and United Kingdom have already opted for populism. Economic-left parties are already proposing increased fiscal spending, socialism, central planning (Green New Deal in the USA) and wealth redistribution. Economic-right parties have begun turning towards tariffs and nationalist economic policy, pro-labor immigration (aka anti-immigration), fiscal stimulus and in some cases debt repudiation. The central bankers in Europe and North America don't have much time left.

Coronavirus is another potential catalyst. Governments around the world are pumping money into the economy. China's preparing a hefty stimulus effort and has already set much of it in motion. If coronavirus is contained, and the evidence currently says it is contained, this stimulus is the opposite of China's recent deleveraging effort. The government does not want a surge in debt, it wants to bend the credit growth curve without triggering a recession or financial crisis. It has been trying to do that slowly, such that a momentary reversal cause by a jump in credit growth could undo years of effort. Additionally, depending on how fast the stimulus hits and how long it takes the economy to return to full production, there could be a mismatch of demand and supply. Stimulus in a slowed economy where some goods and services are not being produced creates extreme pricing pressure. Chinese pork prices rose 116 percent in the year ended January because asian swine flu wiped out Chinese supply. Pumping more money cannot grow pigs any faster, but it can immediately increase the price of pork. Supply-chains are currently slowed down or stopped, such as auto parts and electronic components. It may only take one or two price shocks in a key component to generate wider inflation in an industry. Higher prices spark malinvestment by businesses responding to the price signal. Assets (stocks) in these companies will rise on growth expectations. If this is not contained or reverse, it will expand into a general inflation.