The Ballooning of Inflation

My Comments: Today’s featured article includes this sentence: “The Era of Cheap Money is OVER!”.  My interpretation is that interest rates will continue to increase, thanks in part to the Federal Reserve, and that our money, used to sustain our lives in today’s society, will continue to shrink in value compared to what it is now. We’ll either need more money to sustain ourselves or find ways to go without. That means food, housing, transportation, vacations, everything we need and want, will simply cost more.

This is not new, but the current surge in the cost of living is not going to reverse itself or diminish much until there are new economic dynamics at work. That could be a recession, or if the Fed decides things have slowed down enough to stop raising the cost of money.

by Mark J. Grant \ 8 AUG 22 \

In remarks made to the last Jackson Hole economic conference, Fed Chairman Jerome Powell stated the Fed will remain cautious in any eventual decision to raise interest rates as it tries to nurse the economy to full employment, saying he wants to avoid chasing “transitory” inflation and potentially discouraging job growth in the process. I distinctly remember reading this and wincing.

I stated at the time in my commentary that the only way inflation was now “transitory” was that it would be “transiting” from one area of the economy to the next as it grew and spread its wings. “Transitory” has now proved to be an incorrect assumption, while “transiting” was the correct conclusion.

The Federal Reserve became ensnared in a “cognitive trap” that made the central bank believe inflation was fleeting, Mohamed El-Erian, Allianz SE chief economic adviser, recently stated. He went on to say that “You ended up with this absurd situation in March, still pumping in liquidity. It was still doing QE in March. So, it’s bad analysis, bad forecast, too-little-too-late, and miscommunication‚ and that’s how we’ve ended up in this mess.”

I point out something today which is often overlooked. This is that the Producer Price Index (PPI) often leads the Consumer Price Index (CPI), as goods are produced before they are consumed. Consequently, what I believe is the most accurate gauge of inflation is the average of the PPI and the CPI, which puts our inflation rate at 10.2% today.

Recently, Fed governor Michelle Bowman said she strongly supported the Fed’s 75-basis point rate increase last month, and she said “similarly-sized increases should be on the table until we see inflation declining in a consistent, meaningful and lasting way.” This statement is clear. More Fed hikes to come.

In terms of specifics, NBC News reports that food prices increased 1% from May and 10.4% over the previous 12 months, while the cost of gasoline increased 11.2% from May and energy prices rose 60% over the past 12 months. Excluding food and gas prices, inflation increased 0.7% on the month and 5.9% for the year. We just have to face it – inflation is ballooning.

What is rarely talked about but is certainly there is the large amount of collateral damage that will take place as the Fed increases interest rates and cuts its balance sheet. First and foremost is the corresponding hike in borrowing costs. Interest rates on everything, from the Prime Rate, mortgages, adjustable-rate mortgages, margin loans, bank loans, car loans, car leases, commercial loans, commercial real estate loans, mergers, acquisitions, stock buybacks, credit card debt – and you can keep going on from here – as borrowing costs, lending rates are now rising dramatically. This will also affect corporate revenues and profits and, in the case of some high-yield companies, sink their ratings or force them into bankruptcy. In our present situation, what is good for the goose is clearly not good for the gander.

The era of cheap money is over!

For individuals, the numbers are daunting. At the top, people with credit scores of 700 and above, buyers are still being funded at rates of 3.7-5.5%. A year ago, that could have been as low as 2.1%. People with scores from 640 to 700 are looking at the 6-9% percent range. Anyone below that will face 12-36% loans and beyond, depending upon their job history and their credit file. Our high rate of inflation is certainly troubling, but these kinds of loan rates are also certainly troubling. Both, I point out, could lead us right into a recession, regardless of the protestations of some politicians.

My overall conclusion here is that we are currently in a market-unfriendly environment. We are trapped by the Fed’s higher interest rates to combat inflation, and by higher borrowing costs as a result of the Fed’s actions. Some sort of soft landing – hoped for by many – is nowhere in the cards, in my opinion. We will be experiencing some real pain for a while, in my view, and we are just going to have to deal with it.

“Know what you own and know why you own it.”

– Peter Lynch