My last post about inflation was a lengthy, jumbled mess. It’s a complex topic to say the least. I just came across this post by Michael Batinick, though, and he says what I was trying to say much more efficiently and clearly.
It’s an excellent piece and one I highly recommend reading in its entirety at the link, but I wanted to comment on some of his arguments. He begins by highlighting this chart, which shows that the rate of personal savings by Americans during the Covid recession was higher than at any point in the last 60 years:
There is a clear trend that people save their money during recessions. You might be wondering why Americans would be saving their money during the high inflation years of the late 1970s and early 1980s, given that their dollars were losing value, but it’s worth remembering that you were getting a great interest rate from banks just for parking your money in a savings account. Inflation was high back then, but so were interest rates: the Fed was trying to compel people to save their money and stop spending it in order to combat inflation.
Now part of the reason personal saving was so high during Covid was because the world was shut down and there just wasn’t as many opportunities to spend your money. Vacations were put on hold, dining out was severely limited, etc. Plus people were given stimulus money which, as we went over in the last post, was mainly used to either save or pay down debts. Only 29% of stimulus money was used for personal consumption.
So the bottom line is there’s a huge warchest of cash sitting in savings accounts and it’s probably going to be deployed en masse when we fully reopen. This will inevitably lead to an uptick in inflation, or at least a lot of people are convinced it will.
Then you also add in the $1.9 trillion Biden stimulus plan, which comes after we’ve already done about $3.4 trillion in stimulus in 2020.
It’s worth pointing out that the people who are most vocal about rising prices are the same people who were worried about inflation following the GFC. The spending from those programs totaled $2.8 trillion. Money printing, as we learned, doesn’t automatically weaken our currency.
However, the market is treating those concerns as valid.
It’s also worth pointing out that there are obvious differences between then and now, and just because we didn’t get inflation last time doesn’t mean we can’t get it this time. First of all, the size of this program is just massive. In 2008, the stimulus was 5.5% of GDP. Today it’s 9.1% of GDP. Another obvious difference is that the stock market is at an all-time high. So are housing prices. And as I already mentioned, so is the personal savings rate.
When you combine all this with an inevitable spending boom, the danger of an overheating economy should be taken seriously.
Inflation concerns are very real and very valid. However, Batinick also brings up this great point:
I, for one, think that this risk pales in comparison to the risk we would have faced if we did too little in the way of fiscal relief. I’ll happily trade an overheating economy versus a sluggish one like we saw following the GFC. Too much money in people’s wallets is better than too little. So now here we are.
Absolutely.
I do think consumer prices are going to rise. In fact, I would be surprised if they don’t. Vacations, for example, forget about it. Hotels and Cruises haven’t done any business in the last 12 months. They’re going to see demand like they’ve never experienced, and I expect prices to reflect that.
But I think that this one-time spending boom will lead to a temporary rise in prices which will settle back down as things get back to normal.
I agree completely. I really don’t know how many other sectors are going to be slammed with demand upon reopening, though. Definitely bars and restaurants are going to be flooded with customers. Gyms, too. But other than dining, travel and exercise, what else are we really expecting to see come roaring back?
A lot of sectors of the economy were operating at normal levels even during the pandemic. I don’t think it depressed consumption as much as is widely believed. I think the inflation will be localized to a few select sectors, for a brief spurt, and ultimately will not economy-wide.
As we went over in the last post, so many of the important things we buy have gone way down in price over the past several decades due to the deflationary forces of innovation, mass-production and productivity increases.
If interest rates rise alongside consumer prices, it’s possible that we to get the chance to buy [stocks] at much lower prices.
I just can’t see the Fed hitting the panic button right upon reopening and jacking up interest rates in response to a temporary surge in inflation which will in all likelihood be localized to a few select sectors of the economy.
I think the Fed will actually let the economy run a little hot for a while, even if inflation runs over 2% or even 3%. After all, they’re looking for 2% running inflation, not to hit the 2% target and then hike rates. In a recession, inflation slows, meaning in order to get back to a normal pace of inflation, it’s going to have to run a little bit hot in order to balance things out.
We do not want another scenario like the weak recovery from the GFC. That was an extremely sluggish recovery period and it’s probably the exact reason we’ve seen so much more stimulus comparatively during the Covid recession. The Fed and the federal government don’t want to want to do too little this time around.
Batinick says he’ll start worrying if we see a sustained rise in wages, because that will mean inflation is here to stay (more income, more disposable income, more consumption across the board.)
He also adds that we can see inflation without seeing Weimar Germany levels or Venezuela levels of hyperinflation. This should be obvious but there’s plenty of space in between where we are now and burning piles of worthless money because it’s cheaper than firewood.