The Boldest Prediction I’ve Heard All Year
by Martin Denholm, Senior Editor
Friday, August 27, 2010
Here at Investment U, we frequently talk about the benefits of contrarian investing.
But there’s a difference between being contrarian and just plain wacky.
And wacky is what sprang to mind when I read this prediction from the Policy Exchange – a think-tank based in central London.
In a research note, its Chief Economist, Andrew Lilico, believes U.K. interest rates could hit 8% by 2012.
He argues that it will come following a series of economic events…
- A double-dip recession in the U.K.
- A massive surge of money-printing from the U.K. and U.S. central banks. (He doesn’t say why the Fed would respond to a British double-dip recession by printing money itself.)
- An ensuing economic recovery, with U.K. economic growth “the strongest since the late 1980s.”
- New growth and a vast supply of money will lead to a huge jump in inflation – as high as 10% in Britain by 2012 – with “too much money chasing too few goods.”
- In response, the Bank of England will be forced to raise interest rates to 8%. However, Lilico notes that, “to keep inflation down to only 10% for one year, the economy will have to be able to tolerate interest rates of perhaps 8%. But there is a risk that, between now and 2012, households will not take the opportunity to reduce their debts by enough, and so the economy will not be able to tolerate 8% interest rates without the mass defaulting on mortgages that we are trying to avoid.”
- He then suggests that high inflation and interest rates will lead to another recession in 2013/2014.
The trouble with Lilico’s theory is that it makes several assumptions (which, to be fair, he does acknowledge in his note.) And to suggest that interest rates will hit 8% in just two years is crazy, given that they currently sit at a record low of 0.5% in the U.K. – where they’ve resided for the past year-and-a-half.
Moreover, the U.K. economy is a long way from showing signs of the major turnaround that he says will push inflation higher and make his prediction even close to reality. The country is also swimming in massive debts and is in the midst of serious budget cutbacks in order to rein in the budget deficit. Not exactly the kind of climate that warrants such a bold prediction.
Best regards,
Martin Denholm
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- Bank of Japan Steps In as Yen Hits 15-Year High Against U.S. Dollar
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