It’s been a long time since Western countries such as the US and Australia were worried about inflation and anyone old enough to remember the 1980s should recall that out-of-control inflation led to 18% home loan interest rates!

In the past when people like me i.e. economists were asked about the chances of that happening again, they’d say: “Forget it — central banks have learnt a lot about controlling inflation in a deregulated economy.”

However, with US inflation coming out overnight at 8.5%, a normal person (that is, a non-economist) might be wondering if economists’ confidence that inflation can be controlled to avoid crazy interest rates is misplaced.

Inflation 1960-2022

This chart above shows you what kind of inflation led to 18% interest rates. It actually was bigger in the 1970s but interest rates were regulated back then. But by the 1980s, deregulation came in and rates went out of control.

However since the 1980s, because of better central bank monetary policy and the cost-savings from a more cooperative union movement, reduced trade protection and the Internet’s digital businesses, inflation has been controlled.

But that control has changed since the Coronavirus showed up. This led to governments spending up to drive demand higher, while the virus threatened the supply chain, with lockdowns that have led to higher costs for everything, from microchips going into cars to TVs from China and even baristas working in cafes!

And then along came Vladimir Putin with his crazy, Ukraine war, which catapulted oil and petrol prices higher and it has produced 8.5% inflation in the US!

That was the biggest number for the Yanks since 1981 — the decade when home loan interest rates went double-digit. The CPI was 7.9% in February and now has climbed to 8.5% and the price of gasoline actually was responsible for half that rise.

This underlines the importance of the Ukraine war to current inflation levels and unfortunately, we can’t expect central banks to sort out that threat to inflation.

And while these inflation headlines make for scary stuff, economists have gone looking at the core inflation, which takes out volatile price hikes (like the price of gasoline and food affected by seasonal or one-off war problems), which came in a lower-than-expected 0.3%. Economists expected core inflation would rise by 0.5% so that lower number is a good omen that future inflation can fall.

Helping that number was the biggest drop in the price of used cars since 1969! “Used car prices, which had been a driver of higher goods inflation for months, were down 3.8 per cent in March, the second straight monthly decline. New car prices, meanwhile, rose slightly,” wrote the AFR’s Olivia Rockman. “Treasuries rose, with the yield on the 10-year note falling 7 basis points to 2.71 per cent near 12.30pm in New York, after the data showed core inflation rose less than forecast. The S&P 500 index was 0.8 per cent higher at midday.”

Falling yields on bonds are positive signs that the stock market should like and that fall in core inflation is a reason to be optimistic that inflation can be controlled and interest rates won’t go double-digit again.

As an economist I’m praying for the end of the Ukraine war and that China beats that damn virus ASAP. If that happens in coming months, you will be able to stop worrying about inflation pushing up interest rates to ridiculous levels and it will be an enormous shot in the arm for stocks.