Inflation or deflation – What can we expect post COVID? 

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The current crisis has left uncertain predictions of the long-term effects on the global economy. One question at the forefront of most people’s minds is: will there be deflation or inflation in our future? 

Inflation shrinks the value of money over time and decreases the future buying power of money. High levels of inflation can have dangerous consequences, such as a decrease in living standards due to unaffordable high costs and massive devaluation of cash savings. During healthy economic times, many countries target a moderate inflation rate at around 2% per year to encourage economic growth, maintain international competitiveness and to avoid deflation.

Deflation, on the contrary, is seen as a general decline in prices. A dangerous deflationary spiral occurs when falling prices cause further downwards pressure, creating expectations of further price reductions, and therefore reducing consumer spending. 

Experts are having opposing opinions on where the current crisis will lead us in the short- and the long-term. Some experts criticise large government programs and fear high levels of inflation may follow. If the demand, which is being injected into economies, exceeds the supply, prices will start to rise. Experts argue this can lead to inflation just as it did during the past decade after the 2008 crisis, when real estate, stock and other asset prices peaked at extremely high levels.

Others favouring the idea of deflation are highlighting stumbling oil prices, dropping commodity prices and high rates of unemployment as indications of low inflation or possible deflation. Reduced consumer spending and high unemployment rates predict that demand will continue to be weak over the next 6-12 months. Some are assuming to see the same outcome as seen during the 2008 crisis when a boost in liquidity and easy money failed to push up consumer prices in the short-term.

Private equity firms have to consider two major factors during such times; their borrowing costs and how to price assets for purchasing. For borrowing costs, the risk of high levels of inflation may see debt becoming more expensive. In times of inflation, lender interest rates may see hikes due to government base rate increases, which are then passed on to the borrowers. When it comes to pricing assets, the value of future cashflows decreases, so subsequently the asset purchase price is reduced. Managing vendor expectations will now be more vital than ever to agree on sensible purchase prices for assets. 

In times of uncertainty, our clients prefer to know that active stewardship is a preferred method of ensuring capital growth, rather than relying on the whimsical metrics that control public markets. Active stewardship provides the ability to walk away from projects that do not fit our criteria and take advantage of opportunities caused by market anomalies. Berkeley Assets protects its capital against inflation and volatility by investing in globally diverse tangible assets. For our clients, a fixed return above the average inflation rate allows them to grow their capital and shield it from market volatility.