Copper prices are up 56% to a nine-year high, house prices 9.5%, freight rates 215%, soybeans 54% and lumber 117%, according to Jon Hilsenrath of the Wall Street Journal. The cost of feeding herds has jumped 30%, oil and other commodity prices are soaring and prices of used cars are up 17%.
That’s not the general surge in the price level that we usually call inflation, but these increases and the January jump in producer prices, the biggest gain since December 2009, certainly suggest that general inflation is around the corner. Add this. An impending spending boom as vaccinated consumers are liberated from house arrest. The National Retail Federation guesses 2021 sales will jump 6.5%-8.2%, and Goldman Sachs’ forecast that GDP growth this year will clock in at 6.8%.
Bill Dudley, former President of the Federal Reserve Bank of New York now at Princeton’s Center for Economic Policy, writing for Bloomberg, lists numerous reasons to expect inflation to take off, among them that the destruction of many small businesses “means there won’t be enough capacity to meet resurgent demand…. The upshot will be higher prices.” And economist and former treasury official Diana Furchtgott-Roth says, “The Fed should be more concerned about inflation coming down the pike. It isn’t. Neither are the President and Janet Yellen, his treasury secretary.
The President’s so-called relief bill will pour $1.9 trillion into an economy that has been growing at a rate of 4%, and is accelerating to 6%, in which the last round of $600 checks and growth drove consumer spending up 2.4% in January. Some of the new infusion will be used for Covid relief, some for a bridge from Senate majority leader Chuck Schumer’s New York State to Canada, some to subsidize the perennially loss-making BART transit system in House speaker Nancy Pelosi’s San Francisco. Empathetic relief it ain’t.
The Players: Biden
Each key player has reasons for pooh-poohing the risk of inflation. Start with the President, whose empathetic reaction to the plight of others makes him so attractive a politician. He really feels the pain of the unemployed, the ruined businesspeople, hungry children, those unable to meet mortgage or rent payments. If getting help to the afflicted requires tossing benefits to political allies and deploying a shotgun approach that sends $1,400 cheques even to cash-flush consumers who have not lost their jobs or face eviction, so be it. Over the years Biden has heard that excessive borrowing might unleash inflation, but these warnings mostly came from Republicans who abandoned their devotion to fiscal probity when they held the pen that signs the Treasury’s cheques.
The Players: Yellen
Yellen shares the President’s view that a shotgun approach is needed to reach “pockets of misery” that can’t be reached with a targeted rifle shot. She is stirred by that misery and apparently unshaken by the recent sharp uptick in the rate on 10-year treasuries to above 1.6% (since eased a bit) for the first time in a year. She believes low interest rates will continue to keep the cost of serving the nation’s massive debt ($28 trillion and counting) tolerable, and is confident that if inflation threatens, the Fed she once chaired has the tools to contain it.
The Players: Powell
Which brings us to Jay Powell, chairman of the Federal Reserve Board. He would be happy if inflation rose faster than the 2% annual rate that had been the Fed’s target, and believes that the inevitable post-pandemic demand spurt will be followed by a catch-up in supply. The Fed will “look through” periods of rising prices and “wait and see and not react if we see small, and what we would view as very likely transient effects on inflation…”.
The Players: Investors
Investors are challenging Powell’s “transient” thesis. At Reuters’ investment summit a few months ago they presciently said they favour Treasury Inflation-Protected Securities (TIPS) and commodities, the prices of which rise with inflation. And last week they sold off 10-year treasuries, and shunned an auction of seven-year notes, leaving 40% of the issuance on dealers’ books –“as close to a failed auction as one could get” is the way The Lindsey Group put it. One need not be Eeyore to believe this has more to do with the eventual dire consequences of the speed at which the printing presses are creating new money than, as fans of perennial optimist Charlie Brown contend, the healthy speed at which the economy is growing.
The Script for the Next Episode
More important, in a speech last week President Biden inadvertently undermined Powell’s “transient” argument. He announced policies to address bottlenecks he believes dangerous enough to the growth and security of the nation’s supply side to warrant government action.
- Semi-conductors (chips) are in such short supply that auto production lines are being shut down: it takes at least two years to build a fabrication plant. “…These are highly complex products … so it’s unfortunately not like flipping a switch,” says John Neuffer, president of the Semiconductor Industry Association. Meanwhile, prices for 8-inch wafers were up 10-25% in the fourth quarter of last year and are expected to rise 20-to-40% this year.
- Supplies of rare earth elements, important to the production of batteries, smart phones, computer screens, a 5G network, fighter jets and other weapons, are insecure. Gearing up domestic production to escape an 85-90% dependency on China, which “has periodically moved to ban exports” according to reports in The New York Times, will involve drawn-out litigation with environmentalists concerned about water and soil pollution.
- “Supply chains take a long time to build up capability,” warns Jensen Huang, CEO of chipmaker Nividia. They must be reconstructed in many industries, not least those in the heath care sector if the nation is to be assured adequate medical supplies such as face masks.
Elon Musk would add nickel to this list: the price of this key component of lithium-ion batteries is up 16% and headed higher because supplies will remain tight for three years. And any serious analyst of labor markets would note that retraining workers tossed on the unemployment rolls by the demise of the firms that employed them will be a long slog.
None of these bottlenecks can soon be overcome. The President has ordered a 100-day review of key products to be followed by a year-long review of six major sectors of the economy in which bottlenecks such as broken links in supply chains threaten growth and national security. Presumably to be followed by legislation to make the supply-side more responsive to rising demand. That hardly suggests a quick fix to a “transient’ inflation problem. If inflation does take off, the President won’t accept blame. If I read the calendar correctly, Powell’s term as Fed chairman expires February 4, 2022, on his birthday.