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In an article I read in the mid '90s, the author argued the '70s were coming back – citing cultural as well as economic signposts, including the resurgent popularity of flared trousers and the deep-voiced crooner, Barry White. It was memorable mainly because of its use of the Walrus of Love as an economic indicator. But it was the conclusion that was the real bombshell – could the '70s really be coming back? Inflation is enemy number one of financial assets because it reduces economic visibility. Most of Wall Street’s gains in the '80s and '90s came from falling inflation and the consequent increase in equity ratings, rather than rising corporate profits. Conversely, the '70s was a dreadful period for investors, producing the worst real returns since the 1930s’ depression.

Looking at the current cycle, we can see parallels with the '70s. Commodities are trading at multi-year highs. Indeed, the inflation-adjusted price of crude has now reached levels last seen at the tail end of the last oil crisis in 1978. These high prices are partly a result of the emergence of China and India, much as the '70s were partly defined by the emergence of Germany and Japan. Headline inflation rates are at, or close to, decade highs throughout the developed world. The situation is even worse in the emerging world, where double-digit rates have become the norm. Consumer expectations of inflation have deteriorated significantly, with concerns that inflation will accelerate as higher prices and higher wages feed on each other, much as they did 30 years ago.

While there are parallels, there are key differences. As Nobel Laureate Milton Friedman stated, “inflation is always and everywhere a monetary phenomenon”. If you print too much money, the result is invariably higher prices, as Zimbabwe is finding to its cost with hyper-inflation. Inflation today is partly a reflection of the loose monetary policies pursued by Western central banks in the past decade or so. They gave themselves too much credit for the low inflation of the time – in reality more due to Asia – and kept interest rates too low for too long. There is good reason to think this inflation problem is transitory, however many analysts have accused Fed chairman Ben Bernanke of profligacy. In fact the growth – or lack of – in narrow money suggests otherwise. Meanwhile, the credit crunch is severely limiting the ability of banks to create credit. Hence, it is hard to see where future inflation is going to come from.

Intense competition and increasingly mobile capital flows are much greater anti-inflation disciplines than they once were. Inflation is likely to prove stickiest in those countries where markets are the least free. Europe, with its predilection for socialism, and Asia, with its managed currencies and price controls, are arguably bigger villains than America. Asia’s recent behaviour has been particularly disappointing. We had thought that the 1997/8 crisis had taught Asia the dangers of currency manipulation. It seems they needed another reminder.

In summary, the '70s are probably not coming back and inflation is not about to take off in a major way. Low (narrow) money supply growth, the credit crunch, deflating housing bubbles, slower economic growth, not to mention intense global competition, are a significant counterbalance to the inflation emanating from the buoyant commodity markets. Core inflation – excluding food and energy – is behaving itself and market-based measures of inflationary expectations are imparting a much more benign message than their survey-based equivalents.

Peter Lucas is global investment strategist at Ashburton