EconVue June Newsletter - Inflation: To Be Or Not To Be

posted by Lyric Hughes Hale on June 30, 2021 - 12:00am

We hope you enjoyed our 3-part series on the future of technology and the new New Economy. In case you missed our podcasts this past month, please find links below to listen to Sheila Warren, Dan Breznitz and Winston Ma. As is our goal at EconVue, I believe these discussions will challenge some of your assumptions and provide you with information and analysis you haven't seen elsewhere.

We are at the mid-way point of the year, and the biggest question in economics is whether or not the recent  price increases we are seeing will persist. Or is this just a classic rebound that will eventually level off to previous levels of about 2%, rather than 3% as the Fed is now assuming?  What would cause a permanent 50% increase in inflation? 

Current supply issues have not been caused by real materials shortages. They have been caused by shipping constraints, now blocking Chinese ports, and by labor shortages.  If in the second half of the year jobs are filled as benefits dwindle, retirements slow, and shipping times and costs normalize, where is the increased pricing pressure going to come from? China, which has travelled further down the COVID recovery path than any other country, has seen a disappointing fall in retail sales. If we see this happen elsewhere, especially if lockdowns spread due to the Delta variant, the Fed's concerns will have been misplaced. 

Two articles below lay out the arguments. Economist Robert Shapiro says that Americans have become cautious, and are saving too much.  If the global consumers of last resort continue to hold back, and housing and gasoline prices continue to rise and crowd out other spending, the specter of inflation could vanish and we could begin to worry about its evil twin, deflation.

On the other hand, Tim Congdon at the UK-based Institute of International Monetary Research has the opposite view,  He says that M2 money supply is currently four times greater than it was in 2000 and this will historically and necessarily lead to inflation, which he is forecasting at the rate of 5-10% over the next eighteen months for the US. 

In spite of massive fiscal spending, long term structural issues could persist, overshadowing the recovery. Demographic downshifts that require a generation to turn around still mean that the wealthiest have the fewest children, creating dwindling demand overall. At the presser for the June FOMC meeting, Jay Powell said that what we are seeing is unprecedented, and therefore guidance is very hard to give. But is that true?

What is new is the incredible amount of fiscal stimulus that has been used to counter the economic effects of the pandemic as a proportion of GDP, about 10% this year and last. There is consternation about the 30-year treasury yield drifting down in spite of the dot plot. It is a bit self-referential--the Fed itself is the largest purchaser of US treasuries. If it begins to taper, the enormous debt that has accrued will need to be paid, even if it is just through transfers on a combined Fed-Treasury balance sheet.  Who will buy US bonds once the largest customer cuts back? How will this affect the reserve status and privilege of the US dollar?

Perhaps the only way to maintain stability is to never taper, following the example of the Bank of Japan which itself has been unable to crack the 2% ceiling in spite of decades at the zero bound. Or, the US could mobilize some of the Treasury's more than half trillion of gold reserves to buy some bitcoin, which would immediately drive up the value of their investment.

For example, 10% of current US gold reserves (about $60B at current prices) could be used to buy up 15% of the bitcoin market. This would set off a race with other central banks and investors, resulting in a bitcoin price conservatively ten times what it is now. Hypothetically this would turn an investment in an underutilized and expensive-to-protect asset into $600B. As for private investors, it could also function as a hedge against inflation because of its strictly limited supply.

Of course, if done without caution this exercise would both tank the price of gold and increase the price of bitcoin, making it impossible to buy or sell at current prices. But it would mean that the US Treasury would become the largest holder of bitcoin, maintaining its status as the world's reserve currency a bit longer, on a two-tiered basis.  I believe it is a matter of time before major central banks begins to accumulate cryptocurrencies as they have gold, but the US has by far the most to lose by ceding its leading position.  

If this seems too fanciful, Modern Monetary Theory was pretty much an outlier until our current emergency.  I'm hoping to stimulate discussion, and that you will enjoy the links to the expert commentary and research below.

Research from EconVue Experts and Friends

June 27, 2021
Post-Pandemic, a Strong Expansion Needs Less Personal Saving or More Government Spending
Robert Shapiro

For two generations, economists and other custodians of financial propriety have chastised Americans for not saving enough. Getting the public to pay attention took a pandemic. Facing a real possibility that COVID-19 and the resulting economic havoc might leave them unable to pay their mortgages and feed their families, moderate- and middle-income Americans began saving as much as they could—and are now socking away perhaps too much to support a healthy expansion for the U.S. economy as a whole.

June 14, 2021 / Institute of International Monetary Research
Where does US inflation go from here?
Timothy Congdon

US inflation to be typically between 5% and 10% between now and end-2022, according to our monetary analysis.

June 9, 2021 / University of California, San Diego
Entrepreneurial Revival In Japan: A False Spring or Real Opportunity?
Richard Katz

Reviving entrepreneurship in Japan is no impossible dream. We know this for two reasons: 1) entrepreneurship had previously flourished in Japan, and 2) there are a number of important trends in the labor market, technology, generational changes in attitudes and gender relations all pointing in that direction.

June 1, 2021
China's Bid to Dominate Electrical Connectivity in Latin America
R. Evan Ellis

This article looks at how Chinese companies have made significant advances in the generation, transmission and distribution of electricity across the Latin American region.

June 26, 2021
Anticipating Anomalies in Global Supply Chains
Eleanor Shiori Hughes

Planners can make use of new and emerging technologies to craft comprehensive prediction models that can better help decision-makers decipher when – or if – a seismic abnormality is about to disrupt the global economy.

June 28, 2021 / the Hill
Common sense rules can cure cryptocurrency's curse
Karen Petrou

This article concludes that controversial new Basel rules for crypto-assets will be a boon to developing digital-currency and -asset ventures.  While the global regulatory proposal does indeed demand costly capital, liquidity, and risk-management standards, most of these are reserved for the riskiest crypto-assets.  Many of the standards are thus what well-run banks would expect of themselves. 

Click here to read the rest of our June newsletter.