Weekly Digest: This Nightmare Scenario Could Hit the U.S. Economy in 2022

Plus China’s COVID Strategy Is Faltering Badly 
 

Welcome to your Sunday digest…my weekly breakdown of the things we’re thinking about and talking about in the Global Intelligence world. 

First up this week…the nightmare scenario for the U.S. economy. 

If inflation was the word on everyone’s lips in 2021, then the 2022 sequel could well be “stagflation.” 

Stagflation is the nightmare of economists everywhere. 

This is a situation in which the economy is slowing, or stagnating, while prices are increasing (inflation), and unemployment remains high. 

Fixing stagflation is one of the greatest challenges in economics.  

See, normally, when an economy is struggling, you lower interest rates. This encourages people to spend, since loans are cheaper and they’re getting no return on their savings. As people spend and invest more, the economy grows and jobs are created. 

On the other hand, when inflation is out of control, you need to raise rates. This encourages people to stick their money in the bank, which takes money out of the economy, thereby cooling demand and prices. 

So, when you have stagflation, you’re struggling with two problems…one of which demands you lower rates and one of which demands you raise rates. 

You are trapped in the middle with few good options. 

When an advanced economy falls into the stagflation trap, it can be hugely difficult to escape.  

Japan famously experienced a “Lost Decade” from the early-’90s until the early-2000s due in large part to stagflation. And arguably, its economy has still not fully recovered today. 

All of this is not to say that the U.S. economy will experience stagflation in 2022… 

While inflation is high (the figure for December was a massive 7%), economic growth for the moment remains relatively strong. 

According to a survey of economists conducted by Bloomberg, the U.S. economy was expected to grow by 6% in the fourth quarter of 2021 before falling to a respectable 3.7% in the first half of this year. 

Those growth figures could be enough to hold off stagflation. 

Still, I worry about the jobs market and its impact on inflation… 

At the moment, the high inflation rate is largely the result of supply-chain disruptions related to COVID…plus all the free money the Federal Reserve has been pumping into the economy. 

But now we’re in January and everyone just got wage hikes…in many cases, bigger hikes than usual due to the high inflation.  

More money in people’s pockets means even higher inflation.  

If inflation goes too high (say double digits), the Fed may have to raise interest rates much more than it wants. That would slow economic growth. 

So, you’d end up with higher inflation + a slowing economy, which equals (drumroll, please) stagflation.  

Inflation figures over the next few months will be a key indicator of how this situation is evolving.  

I’ll be following those closely and relaying the information to you here in Field Notes… 

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Next up…what now for China’s COVID strategy? 

China responded to COVID the way you might expect: It banned the virus. 

COVID is not permitted in China. When a case pops up, China locks down communities…even entire cities…until the problem is gone. 

That strategy seemed to work with the Delta variant. But highly contagious Omicron is proving far more troublesome.  

Since late December, China has fully or partially locked down the cities of Xi’an (population: 13 million), Yuzhou (1.1 million), Anyang (5.5 million), and Tianjin (13.9 million).  

These lockdowns come with a high economic cost. But China seems committed to them regardless. The reason, of course, is that the primary concern for China’s leaders is not civic or economic well-being, but maintaining control at all costs. 

Now, it appears the lockdowns are no longer working. That poses big questions, like… 

If China abandons this lockdown strategy, how fast will COVID spread in the country’s densely populated cities?  

How many would die, especially as China has far fewer intensive care beds per capita than the U.S., and its domestically produced vaccines are reportedly less effective than those available in the West?  

And once people start dying, how soon before the people’s ire is directed toward China’s leadership? 

We may get the answers to these questions soon since it seems China’s lockdown strategy is destined to fail in the face of Omicron… 

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Finally, for today’s edition…Tonga.  

This week it was reported that the small Pacific island nation could follow El Salvador and adopt bitcoin as legal tender in 2022.  

In a series of tweets, Lord Fusitu’a, a former member of parliament for Tonga, outlined a timeline for bitcoin to become legal tender in the country. This follows speculation last year that Tonga would make the move. 

The case for Tonga adopting bitcoin is the same as that for El Salvador.  

The remote island country relies on remittances from overseas. In fact, the World Bank estimates that remittances account for a whopping 39% of Tonga’s GDP. That’s the highest figure of any country in the world. 

Using bitcoin to send money, rather than a company like Western Union, could drastically reduce the cost of these remittances…meaning more money in the Tongan economy. 

The plans to adopt bitcoin are still conjecture at present, but I wouldn’t be surprised to see them enacted. And I suspect Tonga will be far from the only country to move in this direction in 2022. 

That brings us to the end of this week’s digest. Many thanks for being a subscriber. And if you have any feedback or questions, reach out through the contact form on the Global Intelligence website.