Professor Russell Napier, author of The Solid Ground investment report, recently spoke with Real Vision about his thesis that the world is headed for rising inflation and financial repression.

Russell Napier’s argument seems to work like this:

Central banks struggled in the post-Global Financial Crisis world to grow the money supply and create inflation (as measured by central banks) despite years of quantitative easing and low interest rates. The problem was that they could not compel banks to lend against their increased reserve base.

Post-Covid, central banks and governments have evolved monetary and fiscal stimulus. Now they are providing banks with explicit loan guarantees and giving direct cash transfers to private people and businesses and the money supply is growing rapidly and inflation expectations are rising rapidly.

This presents a problem. All things being equal, rising inflation pulls up interest rates which crimp growth and sink financial asset values, something that central banks don’t want. Therefore, Mr. Napier believes that policy makers will engage in a complex system of financial repression. In such a system, central banks may peg the entire treasury curve and maybe even corporate bond rates to prevent rates from rising. That however, would incentivize nearly unlimited demand for borrowing that could lead to runaway inflation. Therefore, regulators are likely to “ration” credit using any number of possible government schemes like the social utility of the borrowing (read political utility) and/or capital controls. 

In other words, Mr. Napier is expecting ‘Chinese Style’ capital controls combined with World War II era yield curve control and a general dismemberment of the last vestiges of our free market financial system to avoid the consequences of runaway debt and inflation.  

While I am very inclined to agree with Mr. Napier, and certainly agree that the changes that central banks and fiscal authorities have made since Covid are going to succeed in creating more official inflation than past policies, and certainly agree that his description is directionally correct, I can’t shake the feeling that we are all suffering from a bit of Stockholm syndrome vis-a-vis central banks.

After 40 years of ever more explicit Fed ‘puts’ and ever more radical policy, whenever investors identify a problem we assume that the solution will be provided by central banks, regardless of how bad that solution is for long term market dynamics.

The latest round of this exercise is encapsulated by Mr. Napier’s analysis and shows that we have taken this terrible dynamic to such an extreme that the next round will require the more-or-less explicit suspension of market-based finance for a generation. 

At the risk of sounding optimistic, that may simply be one bridge too far.

The most powerful deflationary force in the world is the collision of a badly overindebted & over financialized economy and just a bit too much inflation. 

Any attempt by central banks to cut off access to credit to any part of the economy as part of ‘financial repression’ aimed at halting inflation is just going to cause a recession. Any attempt to ignore inflation is likely to cause a recession as rates hike themselves, just like they are doing today. Frankly, it’s hard to imagine a scenario where a heavily indebted & financialized economy gets runaway inflation without literal money printing.

Instead of an immensely complex system of government administered everything, maybe we are just headed for a grueling, protracted period of inflation overshoots that lead to market and growth panics, followed by central bank re-liquefications from which, after a decade or two of volatile & painful financial market performance pushed and pulled in both direction by inflation and central banks, we emerge with lower valuation multiples, higher taxes, moderated government spending, and reduced respect for central bank quackery.