Inflation Risks In The U.S – Why Is It Happening And What Could It Mean
Dec 20, 2021
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As the US (and the American-sphere at large) heads into rising inflation, hard working consumers are acutely feeling the pinch as living costs spiral. In this post we are going to look at exactly what inflation is and what causes it. We will also ask just how bad it might get.What is Inflation?
Let's start with a brief economics 101 shall we?! Inflation is the real term decline in the purchasing power of a given currency over time. For example, you probably noticed that a dollar doesn't go anywhere near as far as it did when you were a kid right? Whereas you could treat yourself to a Hersheys bar and a cold Coca Cola with your $1 allowance, your children will be lucky to get a timeshare in a Pepsi bottle for that! Well that is because the value of the dollar gradually declined over time.
Inflation and rising costs are perfectly normal & natural as long as they are incremental, and as long as rising living costs are matched by corresponding increases in wages. However, inflation becomes problematic when it happens too fast, as this undermines the credibility of a currency. Furthermore, inflation can become economically dangerous when it substantially outstrips increases in wages and earnings.
We are not going to sugar coat this but the inflation we are seeing right now in much of the West, is problematic and has not risen to 5.4%; the highest it has been in 30 years. Shoppers across the states are finding that the cost of their weekly grocery baskets is rising exponentially. Many in the middle classes are already having to cut back on their favourite little treats and the hardest hit are even finding it hard to pay for essential items or feed themselves.
The costs of gasoline and household fuels have also risen and the poorest households are preparing for a seriously cold winter as they struggle to keep the heating on.
So far, the Central bank has perhaps been a bit slow out of the blocks and has declined to increase interest rates even though they have stayed constant since 2018. However they have indicated that they may increase 3 times next year and has accelerated the tapering of its bond buying programme which it introduced at the beginning of the COVID pandemic in 2020.
Right now it looks like wages are simply not keeping track. There have been no significant minimum wage rises legislatAsset Bubble
The inevitable bursting of asset bubbles has been responsible for some of the worst recessions in US history such as the 1920 Wall Street crash and the dot.com bubble of the late 90’s. Right now, it is hard to argue that the US is not in something of a stock, bond and real estate bubble; even as the currency loses value and millions of citizens struggle to make ends meet, these sectors are only going from strength to strength posting record gains.
Housing Bubble
We touched on this above. Whilst wages are in real terms declining, paradoxically the cost of rent and real estate is rising fast. Between 2020 and 2021, the average house price in the US increased by a whopping 16.2%. This makes it harder than ever for first time buyers to get onto the market as they need to be able to save for even bigger deposits and service even bigger mortgage loans.
The even greater sting here though, is that rents will inevitably rise once again forcing societies most vulnerable into more financial hardship.
Why Is There Inflation Right Now?
Some of you may be wondering what is the reason for inflation. What exactly is causing the inflation and why it is happening now? Whilst economists will always hold divergent opinions on matters such as this, there are some factors which are definitely at least influencing the current rise in costs and decline of the dollar.
Government Spending
In response to the COVID-19 pandemic and ensuing lockdowns, the FED undertook a staggering and largely unprecedented programme of quantitative easing in order to fund the various business relief and worker support packages.
Basic economic principles of supply and demand state that the more of a currency in circulation, the lower its value and so printing of billions of green was always likely to have this unintended consequence.
Logistical Issues
Supply and demand issues have also hit the supply chain - as goods are becoming scarcer, they are also costing more. The long, worldwide COVID-19 lockdowns saw an inevitable reduction in productivity - factories and manufacturers were forced to close and in severe cases farmers had to watch produce rot in the fields for not having the hands on hand to help them reap the harvest.
There is also a worldwide shortage of heavy goods vehicles drivers which is contributing to the very real phenomena of suppliers having stockpiles of goods that they simply cannot get into shops or into fulfilment warehouses!
And of course, the 2021 Suez Canal blockage also caused a backlog in global shipping which has still not quite been cleared.
The Dangers of Inflation
We have already seen that inflation is already forcing people to cut back on food, heating and gasoline. However inflation risks moving to its next stage and becomes economically dangerous when it forces businesses to close down and shed jobs, and forces renters onto the streets.
In the Great Inflation of the 70’s and 1980’s, the U.S inflation rate reached a peak of 14% by 1980 (so we have a long way to go before we reached this crisis point) and didn’t subside until the mid 1980’s. Those of you with long memories may remember the crime wave and several major American cities like New York brought to bankruptcy.
Not All Doom and Gloom
We cannot know for certain how bad the present inflation will get but the prognosis is not good. Still, there are encouraging signs if we look for them. Indeed, according to Money Transfer Comparison, many money transfer companies (dealing mostly with expats and small businesses transferring large amounts in the U.S) have reported increased volumes of money flowing into USD accounts. If Money Transfer Comparison are correct, then an increase in money transfers to USA suggests that many are keeping faith in the USD and are happy to put their hard earned money back into the US economy.
International money transfer services are one thing but are there other signs of encouragement?
Well kind of. For it is wise to remember that whilst the banking crisis of 2008 was devastating, it did not lead to the ‘Second Great Depression’ that many at the time feared. Therefore we can remain optimistic that as the world moves beyond COVID-19 and as supply chains begin to catch up with demand, the inflation may yet stabilise.
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