Is Inflation A Long-Term Threat, Or Just A Temporary Pop?


Who’s afraid of big, bad inflation? To judge by the stock market on Wednesday, with the release of the latest Consumer Price Index data, that would be the stock market. The S&P 500 slid 2.1% on the news that day.

But Mr. Market, as the great Benjamin Graham dubbed the world of equities trading, is always changing his mind. He tends to calm down from a panicked spell once he has rationally assessed the situation.

In this case, after the shock of the CPI news wore off, a sense of proportion returned. Come Thursday, things were looking a whole lot better, with a 1.2% index bounce back. And with Friday’s 1.5% advance, the market had recovered its inflation freak-out losses.

Federal Reserve Chair Jerome Powell says that inflation may blip up a bit, due to the economy’s reopening, then settle down. As Fed Governor Lael Brainard remarked right after the new inflation report appeared: “A limited period of pandemic-related price increases is unlikely to durably change inflation dynamics.”

Odds are, these two central bankers are right. Sure, sure, economics can make fools of smug forecasters. Remember what the conventional wisdom was in 2007 about the beginning of the sub-prime mortgage bust: It’s manageable. This time, however, the experts may end up vindicated.

What did we learn from the latest CPI report? One thing was that ever-volatile food and energy were big drivers of the surge: The overall CPI rose 4.2% in April, but strip out food and energy, and it was 3%. OK, either one of those numbers is larger than the mild inflation we’ve gotten used to for many years, with CPI growth well below the Fed’s 2% target.

But the year-over-year measurement is suspect because April 2020 was a large down month as the economy closed up shop and people walled themselves off at home, while the epidemic tightened its grip on daily life. Bank of America
calculates that 0.7 point of the increase is related to goods shortages and re-opening costs.

Prime example: used cars. These vehicles, which obviously sell at a discount to new models, saw their prices soar 10% in April. Now, the “previously owned” (as the euphemism goes) autos have long been a factor in restraining the overall car-buying financial burden on U.S. consumers as a group.

Not anymore. With the drastic 2020 shrinkage in travel, auto rental outfits reduced their fleets. And the rental companies have historically been a major contributor to the used-car sales inventory—after a certain amount of mileage, Hertz and the like sold their cars to dealerships to unload.

This time, a lot fewer such cars were on hand to ship to the dealers. Result: a much smaller supply of cheap conveyances, as demand ramped up again Low supply equals higher prices. As new-car production is restored when the chips shortage is solved (another result of the shutdown economy) and a normal used-car market returns, the imbalance will correct itself.

More broadly, the macro inflation-containing dynamics that Brainard mentioned are unlikely to disappear. So watch for these forces to re-assert themselves as people re-emerge into the sunlight and the economy begins to hum anew.

One of these is the diminished power of organized labor. The share of American employees who are union members was cut in half from 1983 through last year, to just over 10%. Back in the hyperinflation 1970s, unions pushed for ever-higher incomes to keep pace with rising prices, thus fueling the fire more. That phenomenon now is a relic.

Another potent inflation-inhibiting, headcount-shrinking dynamic is the rise of automation and digitalization. Robots now are common on the factory floor and other, less physical tasks performed by humans have been rendered less necessary or superfluous. Think bank tellers or data entry workers. That’s not going to change. What if self-driving trucks overcome their current flaws and become the norm? A lot of truck drivers will be out of work. All that has a downward effect on wages, and on inflation in general.

And then there’s globalization. The pandemic, not to mention fears over a rising China, has pushed the narrative that the U.S. will try to make more goods at home. And indeed, the virus put a brake on sending jobs abroad last year. That was then, though. Assembly of TV sets still is more cost-effective in Asia.

For these reasons, don’t expect any long-lasting hike in inflation. True, all the money Washington has pumped into the economy will have an effect and help elevate CPI a bit. Yet that won’t last forever.


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