By Mike Dolan
LONDON May 3 For all the trillions of dollars-worth in new money that central banks are printing, financial markets seem to be signalling that fears of rampant global inflation are unfounded.
Over the past month, investors have devoured virtually any fixed income securities on offer, from the U.S. Treasury to tech giant Apple, debt-laden euro sovereigns Italy or Slovenia and even debut bonds from exotic African countries like Rwanda.
With 10-year yields on lending to United States or Germany now little over 1 percent and the average coupon on high grade global corporate bonds sold so far in 2013 just 4 percent, what seems like ludicrously low 6-7 percent yields to compensate for 10-year Slovenian or Rwandan risk have been wowing the crowd.
Renaissance Capital chief economist Charles Robertson described the sheer speed of this investor dash for fixed income as "remarkable" and more evidence of a "global bond bubble".
Yet despite the underlying global growth slowdown and the demand for bonds, investors have also continued to snaffle away western blue-chip equities, where average dividend yields in the United States and Europe are between 2 and 4 percent, and are shunning income-less inflation hedges like oil and commodities.
Wall St's bellwether S&P500 index set record highs again on Thursday and European equivalents clocked up 11 consecutive monthly gains in April. Oil, gold and copper prices, conversely, are down between 10-15 percent this year, with the drop in crude prices in turn acting as a powerful depressant on imported inflation rates.
By way of some explanation, Barclays economist Michael Gavin cited U.S. data going back to 1930s to say the mix of positive but weak growth and soft inflation was traditionally a boon for both equities and bonds.
"The rationale is that inflation and output tend to be weak following recessions, leaving plenty of room for expansionary monetary policy, which tends to boost equities," said Gavin. "The current environment is no different."
So even as central banks in Washington, Tokyo and Frankfurt continue to flood the world with newly-minted currency via bond buying or cheap loans to their banks, long-held market anxiety about the inflationary consequences appears to be ebbing.
Judged solely by the latest consumer price inflation numbers around the world, it's not hard to see why.
Flashing a green light for this week's latest interest rate cut from the European Central Bank, annual euro zone inflation tumbled to just 1.2 percent last month - its lowest in more than three years and far below the ECB target of close to but below 2 percent.
Earlier last month, much faster-growing China also reported a drop of more than one percentage point in its annual inflation rate in March to just 2.1 percent.
And with U.S. consumer price growth of little more than 1 percent also below the Federal Reserve's assumed target of 2 percent, the picture looks pretty consistent across the globe.
Critically, inflation expectations too are evaporating.
"Breakevens" measuring expected inflation in bond markets - subtracting yields on inflation-protected bonds from nominal yields of the same maturity - have tumbled sharply.
Five-year U.S. Treasury breakevens have dropped more than half a percentage point in just six weeks to fall below 2 percent for the first time in eight months.
Little wonder, then, that an unemployment-focussed Fed this week signalled no hurry to scale back its current spate of money printing and bond buying and even said it may increase it.
So have inflation fears really disappeared? Well, not quite.
Asset manager Fidelity issued a report this week saying it was all about long-term sequencing the cycle and investors should just tilt portfolios gradually to the differing phases.
Right now may well be a sweet spot for both bonds and equities, it said. But a long-term healing of credit markets and rising global demand for food from swelling global populations would eventually supercharge central bank money floods into an inflationary pulse - even if it takes several quarters or even years to materialise.
Given the lure of inflating away excessive Western debts the authorities would tolerate, if not seek, rising prices. By way of historical example, Fidelity showed that some 23 percent of the drop in mountainous post-World War Two U.S. government debt in the 30 years to 1974 can be accounted for by inflation.
British fund manager Legal & General Investment Management dug deeper into structural forces behind inflation in a presentation this week and reckoned a long-term stalling or even retreat of trade globalisation could also unleash higher western price growth in time.
Citing data showing a peak and plateau in global import growth since the credit crisis, L&G IM said the disinflation from cheap goods exported from China and the emerging world - which it claimed cut UK inflation rates by about one percentage point a year in the decade to 2007 - may also be at an end.
But what if the opposite is true? Enter the bears.
Societe Generale's persistently gloomy strategist Albert Edwards says investors are missing the point and the risk is outright deflation, or falling prices - with all the devastation that holds for world's big debtors and equity investors alike.
For Edwards, central bank money printing - as with Japan in the 1990s - is simply failing.
"Over the last 15 years, most investors have refused to contemplate that events in the West are playing out in a similar fashion to Japan in the 1990s," he said. "But the latest inflation data out of both the United States and the euro zone should ram home the fact that we are now only one short recession away from Japanese-style outright deflation."