Morgan Stanley issued the following announcement on Aug. 21.

Markets are pricing years of lower inflation due to fallout from the pandemic. But a simple barbershop visit illustrates why that view is worth examining.

Each week, Chief Cross-Asset Strategist Andrew Sheets, or a member of his team, offers perspective on the forces shaping the markets as well as insights on investment opportunities and risk across global asset classes.

Thoughts on the Market is also available on Apple Podcasts, Spotify, Google Play and other major podcast platforms. In addition, the most recent episode is available on Amazon's Alexa. Just ask Alexa to "Enable Morgan Stanley" or to "Add Morgan Stanley to my Flash Briefing."

For more about our Alexa skill, visit www.morganstanley.com/alexa

For more Ideas, visit www.morganstanley.com/ideas

Current Episode Transcript

Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross-Asset Strategist for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about trends across the global investment landscape and how we put those ideas together. It's Friday, August 21st, at 2 p.m. in London.

One area where our view at Morgan Stanley differs from others is what will happen to inflation. We think it rises back to more normal levels by 2022, while a lot of investors think that lasting weakness from the current crisis will keep it lower for a longer period of time. Market pricing, for example, implies that U.S. consumer price inflation, or CPI, remains well below the Federal Reserve's target over the next 30 years.

So I want to talk about inflation, but approach it in a different way. I'd like to talk about haircuts.

Before I explain, a brief detour into economic theory. For any good, like say, a haircut, there's a theoretical demand curve representing how much demand there is for haircuts at a given price. And there's also a so-called supply curve for how many haircuts are offered at a given price. Those two lines are sloped in opposite directions, as expensive haircuts will mean lots of people will want to provide them, but there'll be fewer takers. The price of something, in theory, is where these two lines meet: the equilibrium.

OK, back to my haircut. Last month, for the first time since January, I got a haircut. Here in London they were recently allowed and, safe to say, I needed one. What was notable about the experience, however, was that dynamics on both supply and demand were inflationary.

Let's start with demand. I really needed a haircut, and thus was more willing to pay up for one. I also hadn't had a haircut in a very long time, so the cost was easier to justify, and a lot of people were in the same position; it was very hard to make an appointment. In economic terms, the demand curve has shifted up - there were simply more demand for haircuts at any given price. Now let's turn to supply. Some barbershops had opened, but not all, and some, unfortunately, have gone out of business. Those that can open can only operate at half capacity, and businesses have extra costs: face masks, face shields, temperature checks, etc. In economic terms, the supply curve is shifted down. It's simply less attractive than before to cut hair at any given price.

More demand and less supply means higher prices, and if that's true for haircuts, it could be true for other parts of the economy as things re-open. The next two years could see more demand, for example, to take long deferred vacations, but less availability as hotels, rental car companies, cruise lines, and airlines have been forced to scale back. There could also be a backlog in medical procedures delayed by COVID, and only a finite number of doctor hours available to do them.

Impacts to both supply and demand in the coming years are part of the reason that we think inflation eventually moves higher. We don't think that's necessarily a bad thing for the economy, but it is something that's very much not in current market expectations.

Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple Podcasts app. It helps more people find the show.

Original source: https://www.morganstanley.com/ideas/thoughts-on-the-market-sheets