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'The mother of stagflationary debt crises': Nouriel Roubini sounds alarm on rising prices and debt

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(Kitco News) The risk of 1970s-style stagflation is looking more real with every passing day, according to Nouriel Roubini, CEO of Roubini Macro Associate and professor at the NYU Stern School of Business.

Stagflation is an environment with slower growth and high inflation, and Roubini believes that policy makers will have limited room to move due to high debt levels.

"The stagflation of the 1970s will soon meet the debt crises of the post-2008 period. The question is not if but when," Roubini wrote in The Guardian. "We are left with the worst of both the stagflationary 1970s and the 2007-10 period. Debt ratios are much higher than in the 1970s, and a mix of loose economic policies and negative supply shocks threatens to fuel inflation rather than deflation, setting the stage for the mother of stagflationary debt crises over the next few years." 

Loose monetary and fiscal policies around the world have been driving economic growth over the last ten years. This accommodative approach accelerated to deal with the economic consequences of the COVID-19 pandemic. And this has fueled asset and credit bubbles, wrote Roubini.

The economist also pointed to "irrational exuberance" in some sectors of the market, including crypto and meme stocks.

"The warning signs are already apparent in today's high price-to-earnings ratios, low equity risk premia, inflated housing and tech assets, and the irrational exuberance surrounding special purpose acquisition companies, the crypto sector, high-yield corporate debt, collateralised loan obligations, private equity, meme stocks, and runaway retail day trading. At some point, this boom will culminate in a Minsky moment (a sudden loss of confidence), and tighter monetary policies will trigger a bust and crash," he said.

Loose monetary policy conditions also feed into inflation expectations, setting the stage up for stagflation, Roubini added.

Stagflation could be triggered by any new supply shock, he added, listing "renewed protectionism; demographic ageing in advanced and emerging economies; immigration restrictions in advanced economies; the reshoring of manufacturing to high-cost regions; or the Balkanisation of global supply chains," the economist explained.

What makes this stagflation scenario inevitable is that central banks have very limited options these days.

"Central banks have effectively lost their independence because they have been given little choice but to monetise massive fiscal deficits to forestall a debt crisis," Roubini said. "With both public and private debts having soared, they are in a debt trap. As inflation rises over the next few years, central banks will face a dilemma. If they start phasing out unconventional policies and raising policy rates to fight inflation, they will risk triggering a massive debt crisis and severe recession; but if they maintain a loose monetary policy, they will risk double-digit inflation – and deep stagflation when the next negative supply shocks emerge."

The central banks have a dilemma of whether to tighten monetary policy in light of higher inflation or not. But both options fail to solve the problem.

"Central banks will be damned if they do and damned if they don't, and many governments will be semi-insolvent and thus unable to bail out banks, corporations and households. The doom loop of sovereigns and banks in the eurozone after the global financial crisis will be repeated worldwide, sucking in households, corporations and shadow banks as well," Roubini elaborated. "As matters stand, this slow-motion train wreck looks unavoidable. The Fed's recent pivot from an ultra-dovish to a mostly dovish stance changes nothing. The Fed has been in a debt trap at least since December 2018, when a stock- and credit-market crash forced it to reverse its policy tightening a full year before Covid-19 struck. With inflation rising and stagflationary shocks looming, it is now even more ensnared."

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