The Fed’s Tightrope Walk with Inflation
Conventional Wisdom would have it: Printing new money devalues the existing money in the system and with a weaker currency that would mean prices of raw materials will be going up. (i.e. Inflation)
The Fed has been busy with US Monetary Supply increasing more than +25% since the start of 2020, making it the fastest pace of monetary growth since the Federal Reserve’s establishment in 1913. (Yes, more than the 2008 Financial Crisis) Headlines like this will grab people’s attention but 2020 finished with CPI at a modest 1.4%-1.6%., so what are the economists missing?
Inflation will likely come in waves. U.S. housing prices, in aggregate, rose 8.4% last year, and median listing prices for houses on the market were up 14.4%. And for those looking to renovate their homes, the cost of lumber had its affect, rising +80% at its peak.
But what happens when life gets back to normal? We might find that the demand for homes subsides and skyrockets in… Travel & Leisure. With COVID’s reminder that future plans aren’t guaranteed, many may want to get that Disney World trip in as soon as possible with demand causing ticket prices to rise.
So we will likely start seeing inflation rear its head over the next year but in the actual calculation of inflation, we have yet to mention a key part: the Velocity of Money. Velocity measures people’s willingness to hold cash and lower velocity means that people are hoarding cash, which usually happens during periods of economic weakness. If the Fed prints a dollar and that dollar is stuffed into someone’s mattress, it does not affect inflation.
The rise in housing prices, stocks and bonds suggests that the influx of dollars is being felt in the economy, just not in ways that impact the CPI. And after the US reaches herd immunity, will we go back to the “American Way” of saving less and spending more? To be prepared for this possibility, in principle the stock market is a good hedge against inflation. Business revenues should track consumer prices; and shares are claims on that revenue. The strongest positive correlations specifically come in Value oriented stocks, think more Johnson & Johnson and less Tesla.
When the GameStop hysteria hit, USA Today reached out to Advisor Sam G Huszczo, CFA, CFP to get his take on what it means for the markets moving forward in the 1st article below: