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Quarterly Economic Outlook: Keeping the punch bowl filled

In hard macro terms, the tragic spread of the coronavirus provides another argument for keeping policy rates close to the floor, and the ‘punch bowl’ of central-bank liquidity filled. Providing negative demand and supply-shocks, the virus threatens at the very least an unanticipated hit to H1 activity, which China may be loathe to fully acknowledge when GDP close to +6%yoy is needed to meet its aims (page 9). How the situation plays out rests on more, of course, than finance. But, for major economies, the interplay of which factor adjusts first – lower demand or ruptured supply-chains – will drive inflation. So far, inflation expectations (e.g. US 2-year breakevens) are turning down, which, short-term, may be complacent if supply falls first. But, beyond that, any inflation will surely be the ‘wrong sort’ (like 2011 with oil): cost-push led by goods/labour shortages, rather than demand-pull. Central banks will thus extend easy money as economies stagflate.

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