The years 2020-22 were indeed most remarkable for asset classes. We had gold prices staying in a strong band, bonds appreciating as rates fell, equity markets soaring under the swell of liquidity, and real estate melting up on the back of low-interest rates coupled with easy credit. There was a party in multiple asset classes.
Naturally, this created a massive wealth effect globally. Everybody felt much richer in just two years. But, the economies of the world were actually no better than they were pre-COVID. The problem with a positive wealth effect is that we tend to take it for granted. We think about it for real and forever. But, any wealth effect driven by extreme monetary policies is like swollen rivers. When the waters recede, the place will look very different. The wealth profile of global citizens is possibly headed in a different direction. The culprit is soaring global inflation.
As Nations control interest rates, liquidity will be squeezed, rates will rise, family wallets will start shrinking, credit will become tough to come by, and assets will depreciate. As assets depreciate, loans inflict pressure on families and deleveraging gains momentum, the wealth effect will begin to thin down. We will feel less rich as our stock portfolios, debt portfolios, home values and regular savings decline. This is inevitably going to create a shrinking of the wealth effect created by the global response to COVID during 2020-22.
If countries must soften this blow on citizens, what really matters is how they battle inflation. This fight is going to be a pitched battle. Not many investors understand the gravity of the situation.
