Global financial markets are seeing extreme moves, with stock prices dropping sharply in recent weeks – albeit after a stunning run higher – while bond markets are being pushed and pulled as central banks around the world end money printing and signal plans to hike interest rates.
Even the crypto markets are in turmoil, with the likes of Bitcoin down more than 50 per cent in the past few months, falling to US$34,500 from a recent record peak of US$69,000.
Uncertainty about the coronavirus variants and their intensity are just a part of the reason for this market volatility.
But more important for financial markets is the end of a decade of relatively easy money.
Ever since the global financial crisis smashed onto the scene in 2008, central banks have been printing money and lots of it. Interest rates have been skewed to zero, sometimes less, and governments have generally run huge budget deficits as they work to pump-prime their economies away from high unemployment and economic dislocation.
This has been easy to implement, on balance, by the fact that inflation has been well below most central banks’ targets for the bulk of the past decade.
These policies have had the effect of pumping up stock markets, which around the world have in recent times hit record highs.
House prices have also been boosted, to some extent, with strong increases around much of the world.
So easy was access to credit, that a lot of companies without much of a business model had booming share prices.
This is ending, with many share prices for ordinary companies crashing.
It’s been argued that the deluge of money allowed the absurdity of cryptocurrencies to not only exist but to appreciate in value in ways rarely seen in economic history.
For stock markets, in particular, the end of easy money will be a challenge.
2022: The year of reversal
In the coming months, most central banks will be hiking interest rates, with the notable exceptions of China and Japan. Even in the economically troubled eurozone, markets are pricing in slightly higher interest rates.
These banks will also stop flooding capital markets as quantitative easing comes to an end and, in some cases, they could suck cash out of the banking system by selling their current bond holdings into the capital market.
This is called quantitative tightening, a term we will all hear a lot more of in the months ahead.
The magnitude and duration of the market ructions are impossible to predict.
A lot depends on how stubborn inflation is and what sort of monetary policy response is needed to get inflation back to the target range.
In the case of the world’s largest capital market, the US, there is an expectation that the Federal Reserve will need to hike interest rates to around 2 per cent to achieve this goal.
At face value, this would not be enough to have a serious effect on stock and bond markets.
But, if it turns out that inflation is more persistent than currently envisaged and interest rates need to be hiked to 3 per cent or more, bond yields will be pressured higher and stock prices lower.
This is where a lot of the anxiety in markets right now is stemming from.
In the months ahead, all eyes will be on each reading for inflation and how central banks react to those inflation updates.
The risks appear to suggest inflation will be higher for longer.
Such is the blowout in inflation to 30- and 40-year highs in the US, Canada and the UK, for example, that getting it back to target will not be quick or easy.
This means there are more risks for yet lower share prices and higher bond yields in the months ahead.