Inflation may have peaked, but other risks remain

As global growth starts to steady, inflation may follow, but the U.S. dollar will remain vulnerable to further weakness, a currency expert says. 

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“We’ve moved from a period of very strong growth this year and at the back end of 2020, to an environment now where growth is slowing,” said Michael Sager, vice-president, multi-asset and currency management, at CIBC Asset Management, in a recent interview.

Sager noted that global growth is slowing but in a “relatively benign” way. Last month, Fitch Ratings trimmed its global GDP forecast for 2021 from 6.3% to 6%, while the Conference Board of Canada cut its 2021 growth forecast for Canada from 6.7% to 5.1%.

Meanwhile, inflation has reached new highs in the United States and Europe as bottlenecks restrain the economic recovery.

But Sager believes inflation has almost hit its peak — particularly in the U.S. Along with growth, Sager predicts inflation will wane progressively as we move into 2022.

“The relatively high inflation, compared to what we’ve been used to, is likely to stay around for the next several months,” said Sager, who manages the CIBC Multi-Asset Absolute Return Strategy fund. “We’ll probably be back to central bank inflation targets around 2% year-on-year inflation by the end of next year.”

However, there are still a number of risks.

Sager said the Delta variant could threaten his benign growth view, as could Chinese regulatory policies and the fallout in the real estate sector from developer Evergrande’s debt. 

“China remains probably one of the more important risks,” said Sager. “We’ve seen concerns around the real estate sector and risks of spillovers from that sector to the rest of the economy.”

However, broadly speaking, Sager said Covid-related risks appear to be gradually diminishing, at least from an economic perspective. And markets have priced in most of the risks in China, so “we would view them as more of a tail risk rather than a central outcome,” he said. 

With regards to currency, Sager predicts that the U.S. dollar is likely to go sideways, consolidating around current levels against most currencies in the next three to six months. 

However, in the longer term, he said the U.S. dollar “is vulnerable to further weakness.”

That weakness could stem from financial fundamentals that weigh on the U.S. dollar such as the current account deficit, the the budget deficit and government debt, Sager said. 

The Canadian dollar, on the other hand, appreciated strongly against the U.S. dollar for most of 2020. Over the past few months it’s given back some of those gains, but Sager doesn’t see a cause for concern. 

Given Sager’s benign view on the growth slowdown, he expects commodity prices to remain strong and support the Canadian dollar.

“We think that the Canadian dollar can probably strengthen a little bit in the short term,” he said — likely 3% to 4% appreciation against the U.S. dollar.

Longer term, Sager thinks the Canadian dollar will hold its ground against the greenback, “but no better.”

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