Chief Economist & Political Strategist, CrossASEAN Research

Prasenjit K. Basu

Chief Economist & Political Strategist

CrossASEAN Research

At CrossASEAN Research we strive to produce unbiased and differentiated on the ground insights on companies across South East Asia. Our Research is produced for the most part after face to face meetings and conversations with company management to dig deep into the long term vision and strategy of the companies we cover. We seek to deliver investable and actionable themes on sectors and markets across SE Asia, often in collaboration with other Insight Providers across the region, pooling the vast experience of the analysts within the Smartkarma Ecosystem. We also offer bespoke work and tailor made trips for our clients. 

Insights across South East Asia

Macroeconomics

<ul>
<li>CPI inflation (7%YoY) is at its highest since the Volcker era (June 1982), core CPI inflation (5.5%YoY) its highest since February 1991, driven by 12-14%YoY growth in M2 during 2H21.</li>
<li>The 'disappointing' NFP still brought the unemployment rate down to 3.9% in December 2021, well below the NAIRU, resulting in a 4.7%YoY rise average hourly earnings (wages).  </li>
<li>We expect at least 4 hikes in the Fed Funds rate this year, taking it to 1.25% by end-year, with QE4 likely abandoned at the Jan25-26 FOMC meeting. </li>
</ul>


CPI inflation (7%YoY) is at its highest since the Volcker era (June 1982), core CPI inflation (5.5%YoY) its highest since February 1991, driven by 12-14%YoY growth in M2 during 2H21.
The 'disappointing' NFP still brought the unemployment rate down to 3.9% in December 2021, well below the NAIRU, resulting in a 4.7%YoY rise average hourly earnings (wages).  
We expect at least 4 hikes in the Fed Funds rate this year, taking it to 1.25% by end-year, with QE4 likely abandoned at the Jan25-26 FOMC meeting. 


US: Tight Labour Market and Still-Abundant M2 Make for an Inflationary Cocktail

<ul>
<li>M2 growth consistently in the 12-13% YoY range is the key reason why all core inflation gauges scaled 30-year highs last month. Fiscal stimulus was a secondary contributor.</li>
<li>Mere tapering of asset purchases will not materially slow M2 growth, and housing will likely boost inflation further. FOMC will be obliged to tighten earlier in 2022 than markets expect. </li>
<li>Despite the US$1.2tn Infrastructure Act, the fiscal deficit in FY2022 will be only 5% of GDP, from 12.4% in FY2021, restraining the recovery. Stagflation will result by mid-2022. </li>
</ul>


M2 growth consistently in the 12-13% YoY range is the key reason why all core inflation gauges scaled 30-year highs last month. Fiscal stimulus was a secondary contributor.
Mere tapering of asset purchases will not materially slow M2 growth, and housing will likely boost inflation further. FOMC will be obliged to tighten earlier in 2022 than markets expect. 
Despite the US$1.2tn Infrastructure Act, the fiscal deficit in FY2022 will be only 5% of GDP, from 12.4% in FY2021, restraining the recovery. Stagflation will result by mid-2022. 


Inflation Caused by Monetary Surge; Risk of Stagflation in 2022 Amid Fiscal Tightening

Cross Asset Strategy

As we predicted in June 2020, US CPI inflation has jumped at the start of 2Q 2021, the headline rising to 4.2% YoY (a 12-year high) and the core-CPI inflation rate rising to 3% YoY (the highest in 25 years).  Although FOMC members insist inflation is "transitory", there are shortages of chips, ships, and many resources globally. Despite some seeming slack in the US labour market, it is proving difficult to move workers from sectors with surplus labour (eg, hospitality and aviation) to other sectors of the economy, and this friction is contributing to higher inflation. We believe the FOMC will have to cut back on the size of its asset purchases (thereby slowing M2 growth from its currently torrid 21% YoY pace), and will be obliged to raise the Fed Funds rate by 12.5bp by the July FOMC meeting.  Inflation is also rising because the economy is operating near full-capacity after the massive fiscal stimulus (over 10% of GDP) passed by March 2021. President Biden has proposed US$4.1 trillion of additional spending on Infrastructure and Families over the next 8-10 years, to be financed by tax increases (a higher corporate tax rate of 28%, higher personal income tax rates for those with over US$1 million of annual income, and a near-doubling in the capital-gains tax rate for the richest). The tax increases are designed to pay for the increased spending over 15 years, implying that there will an additional fiscal stimulus since the spending will be more front-end-loaded than taxes. This ambitious fiscal agenda, however, is only likely to be partially enacted, given that the Democrats have only 4 seats more than the half-way mark in the House, and exactly half the Senate (implying a big role for Vice President Harris's casting vote). Anything opposed by one of the 3 relatively conservative Democratic Senators (Manchin, Kelly and Sinema) or the Blue Dog coalition of centrist Democrats in the House (numbering 19 members). Truly ambitious spending aimed at creating permanent entitlements (e.g., the "green" and tech-intensive elements of Biden's Infrastructure Plan, and some elements of his Families plan that don't hit at "reparations") could pass with 60 Senate votes (at least 10 Republicans). But the size of the total spending will need to be cut back to about US$1 trillion (out of US$4.1 trillion) with commensurate compromises on taxes (corporate tax of 25%, capital gains tax rate hiked to less than a 30% peak with loopholes). Even using the Budgeting process to pass tax and spending through "reconciliation" (bypassing the need for 60 Senate votes, settling for 51) will have limited utility. While we expect a smaller package to get done, it will be less inflationary than the full Biden package. But inflation will nonetheless remain a factor all through 2021. We recommend being Underweight equities, with the allocation focused on mineral (including gold) companies, steel producers, plantation companies and industrial cyclicals that benefit from growth and inflation.

As we predicted in June 2020, US CPI inflation has jumped at the start of 2Q 2021, the headline rising to 4.2% YoY (a 12-year high) and the core-CPI inflation rate rising to 3% YoY (the highest in 25 years).  Although FOMC members insist inflation is "transitory", there are shortages of chips, ships, and many resources globally. Despite some seeming slack in the US labour market, it is proving difficult to move workers from sectors with surplus labour (eg, hospitality and aviation) to other sectors of the economy, and this friction is contributing to higher inflation. We believe the FOMC will have to cut back on the size of its asset purchases (thereby slowing M2 growth from its currently torrid 21% YoY pace), and will be obliged to raise the Fed Funds rate by 12.5bp by the July FOMC meeting.  Inflation is also rising because the economy is operating near full-capacity after the massive fiscal stimulus (over 10% of GDP) passed by March 2021. President Biden has proposed US$4.1 trillion of additional spending on Infrastructure and Families over the next 8-10 years, to be financed by tax increases (a higher corporate tax rate of 28%, higher personal income tax rates for those with over US$1 million of annual income, and a near-doubling in the capital-gains tax rate for the richest). The tax increases are designed to pay for the increased spending over 15 years, implying that there will an additional fiscal stimulus since the spending will be more front-end-loaded than taxes. This ambitious fiscal agenda, however, is only likely to be partially enacted, given that the Democrats have only 4 seats more than the half-way mark in the House, and exactly half the Senate (implying a big role for Vice President Harris's casting vote). Anything opposed by one of the 3 relatively conservative Democratic Senators (Manchin, Kelly and Sinema) or the Blue Dog coalition of centrist Democrats in the House (numbering 19 members). Truly ambitious spending aimed at creating permanent entitlements (e.g., the "green" and tech-intensive elements of Biden's Infrastructure Plan, and some elements of his Families plan that don't hit at "reparations") could pass with 60 Senate votes (at least 10 Republicans). But the size of the total spending will need to be cut back to about US$1 trillion (out of US$4.1 trillion) with commensurate compromises on taxes (corporate tax of 25%, capital gains tax rate hiked to less than a 30% peak with loopholes). Even using the Budgeting process to pass tax and spending through "reconciliation" (bypassing the need for 60 Senate votes, settling for 51) will have limited utility. While we expect a smaller package to get done, it will be less inflationary than the full Biden package. But inflation will nonetheless remain a factor all through 2021. We recommend being Underweight equities, with the allocation focused on mineral (including gold) companies, steel producers, plantation companies and industrial cyclicals that benefit from growth and inflation. 

Biden's "Socialist" Remake of the US: How Much Will Be Too Much for the Blue Dogs?

With the US economy growing 6.4%QoQsaar in 1Q 2021,  the output gap has narrowed to just 2.1% below its potential growth path. Headline inflation is already at 2.6% YoY, and likely to exceed 3% in 2Q 2021. While the FOMC reiterated its determination to keep adding US$120 billion to its balance sheet every month, it will be impossible for it to stick to this commitment in the face of a soaring economy and roaring labour market. Expect monetary tightening surprises ahead!

With the US economy growing 6.4%QoQsaar in 1Q 2021,  the output gap has narrowed to just 2.1% below its potential growth path. Headline inflation is already at 2.6% YoY, and likely to exceed 3% in 2Q 2021. While the FOMC reiterated its determination to keep adding US$120 billion to its balance sheet every month, it will be impossible for it to stick to this commitment in the face of a soaring economy and roaring labour market. Expect monetary tightening surprises ahead! 

Biden Stimulus+ Will Be Inflationary; Policy Stability Is Enabling a More Leftward Tilt

With the output gap closing, and a big US$900 billion fiscal stimulus on the way, the 24% YoY pace of M2 growth is bound to push core PCE inflation above 2% YoY by March 2021. The FOMC will be obliged to cut back on its promise of US$120 billion of monthly asset purchases by April, and to actually raise the Fed Funds rate by mid-2021. We consequently expect a dollar rally in 2021, and a sell-off in risk assets (including equities) by 2Q 2021. US money supply (M2) has plateaued at 23-25% YoY growth in the past half year (far faster than the peak in M2 growth at 10.4% YoY in Jan 2009 during the GFC). Despite a wide output gap (10% of potential GDP in 2Q 2020, and 3.5% in 3Q 2020), core PCE inflation was only slightly lower in July-November 2020 (1.3-1.6% YoY) than in the last two pre-Covid months (1.7-1.8% YoY in Jan-Feb 2020). With the output gap set to close in the current quarter, as indicated by the current strength of ISM's PMIs for both manufacturing and services, the surging pace of M2 growth is likely to begin generating over 2% core PCE inflation by March 2021.The FOMC has repeated that it will allow core PCE inflation to "moderately" exceed 2% for a time (to offset the long periods below 2% YoY) before raising the Fed Funds rate. However, its latest statement also says the FOMC is "prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee's goals". With ISM new orders pointing to a stronger US economy in 1H 2021, Congress has just approved a US$900 billion fiscal stimulus to further turbo-charge the economy (and provide support to individuals' and SMEs' ability to consume and invest). Although the unemployment rate will still be 5.5% in March 2021, employment is unlikely to rise substantially more (given the productivity-enhancing impact of work-from-home, which will permanently reduce resource use across the economy). Consequently, it will be impossible for the FOMC to keep its promise to purchase US$120 billion of assets monthly after March 2021, by which time core PCE inflation will be pushing past 2% YoY.By April 2021, we expect the Fed to be obliged to considerably reduce the size of its monthly purchases of Treasury and mortgage-backed securities, and to raise the Fed Funds rate by June 2021. The failure to do so will cause inflation to rise past 3% YoY amid a closed output gap and surging economy. In the intervening period, the yield curve will steepen further, but equities will sell-off by March 2021 as markets turn increasingly risk-averse amid rising signs of inflation (and higher inflationary expectations). We would recommend taking profits on global equities by end-2020, and switching to a more defensive asset allocation in 1Q 2021. Banks, however, will be an exception worth holding onto amid a steepening yield curve.

With the output gap closing, and a big US$900 billion fiscal stimulus on the way, the 24% YoY pace of M2 growth is bound to push core PCE inflation above 2% YoY by March 2021. The FOMC will be obliged to cut back on its promise of US$120 billion of monthly asset purchases by April, and to actually raise the Fed Funds rate by mid-2021. We consequently expect a dollar rally in 2021, and a sell-off in risk assets (including equities) by 2Q 2021. US money supply (M2) has plateaued at 23-25% YoY growth in the past half year (far faster than the peak in M2 growth at 10.4% YoY in Jan 2009 during the GFC). Despite a wide output gap (10% of potential GDP in 2Q 2020, and 3.5% in 3Q 2020), core PCE inflation was only slightly lower in July-November 2020 (1.3-1.6% YoY) than in the last two pre-Covid months (1.7-1.8% YoY in Jan-Feb 2020). With the output gap set to close in the current quarter, as indicated by the current strength of ISM's PMIs for both manufacturing and services, the surging pace of M2 growth is likely to begin generating over 2% core PCE inflation by March 2021.The FOMC has repeated that it will allow core PCE inflation to "moderately" exceed 2% for a time (to offset the long periods below 2% YoY) before raising the Fed Funds rate. However, its latest statement also says the FOMC is "prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee's goals". With ISM new orders pointing to a stronger US economy in 1H 2021, Congress has just approved a US$900 billion fiscal stimulus to further turbo-charge the economy (and provide support to individuals' and SMEs' ability to consume and invest). Although the unemployment rate will still be 5.5% in March 2021, employment is unlikely to rise substantially more (given the productivity-enhancing impact of work-from-home, which will permanently reduce resource use across the economy). Consequently, it will be impossible for the FOMC to keep its promise to purchase US$120 billion of assets monthly after March 2021, by which time core PCE inflation will be pushing past 2% YoY.By April 2021, we expect the Fed to be obliged to considerably reduce the size of its monthly purchases of Treasury and mortgage-backed securities, and to raise the Fed Funds rate by June 2021. The failure to do so will cause inflation to rise past 3% YoY amid a closed output gap and surging economy. In the intervening period, the yield curve will steepen further, but equities will sell-off by March 2021 as markets turn increasingly risk-averse amid rising signs of inflation (and higher inflationary expectations). We would recommend taking profits on global equities by end-2020, and switching to a more defensive asset allocation in 1Q 2021. Banks, however, will be an exception worth holding onto amid a steepening yield curve. 

2021 to Mark the Return of Inflation: Fed Hike by Mid-Year Implies Risk-Off by 2Q/21

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US: Tight Labour Market and Still-Abundant M2 Make for an Inflationary Cocktail

M2 continued growing 12-14%YoY in Jul-Nov2021 (after 24%YoY growth in Jul-Nov2020). With unemployment down to 3.9%, inflation has surged. We expect...

Prasenjit K. Basu

Inflation Caused by Monetary Surge; Risk of Stagflation in 2022 Amid Fiscal Tightening

Fiscal deficit to fall from 12% of GDP in FY2021 to 5% in FY2022, dragging growth down. 18 months of 12-27%YoY M2 growth will keep inflation high...

Prasenjit K. Basu

Biden's "Socialist" Remake of the US: How Much Will Be Too Much for the Blue Dogs?

Blue Dog moderate Democrats hold the voting key & will ensure a Biden-lite tax & spending agenda eventually gets through Congress. Inflation will...

Prasenjit K. Basu

Biden Stimulus+ Will Be Inflationary; Policy Stability Is Enabling a More Leftward Tilt

Monetary tightening surprises are ahead, given that PCE is growing over 10% and real GDP 6.4%. The roaring labour market will make it impossible...

Prasenjit K. Basu

2021 to Mark the Return of Inflation: Fed Hike by Mid-Year Implies Risk-Off by 2Q/21

A closing output gap coupled with $900bn fiscal stimulus will make 2%+ inflation inevitable if M2 keeps growing 24%YoY. US monetary tightening will...

Prasenjit K. Basu

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