The current policy of the US central bank is to allow inflation to move above the long-term trend line of 2 percent for some time before the Federal Reserve intervenes. Inflation has been below this for so long that it may now move above the trend line for a longer period of time. This is despite the fact that in recent decades the policy rate has been raised on the idea that there might be inflation in the pipeline. At the moment, inflation is rising and will be well above the trend in the coming months. Almost everyone agrees that this is a temporary phenomenon. It is common for inflation to rise after a recession. There have also been some disruptions in the production chain due to the corona crisis, but this is a temporary phenomenon. The Fed is counting on 2.4 percent for this year. The big question is what the market and the Fed will do when inflation actually exceeds that.
Last weekend, Warren Buffett indicated that Berkshire Hathaway is currently facing significant inflation and that the company is responding by raising prices. He added that this is accepted by the market. This is also reflected in the latest figures from the purchasing managers. The price component there has been rising for 11 months in a row and is at its highest level since July 2008. Commodity prices are rising across a broad front. Copper, oil, lumber, palladium, corn, soy – apart from gold, there is almost no raw material whose price is not rising. Even a new “commodity” such as CO2 has doubled in price in six months and may rise much further. The price has to go up to 100 to 200 euro per ton to meet the European climate targets. There has been a shortage of chips for five months. First, the car industry was blamed, but now the whole world is suffering. And it is not just five months, it will take years before the production capacity of chips is sufficiently expanded. Doesn’t really sound like temporary.
The changing mix, with fewer low-paid jobs, makes it look like wages are rising, but that is not so bad. At the same time, many entrepreneurs complain about the difficulties they have in finding good staff. When the economy fully opens up again, labour shortages will return and wages may rise on a broader front. Trade unions may not be so powerful anymore, but social media are. One in five workers in the hospitality industry has found another job during the corona crisis and the last baby boomers have now opted for early retirement. Entrepreneurs will have little trouble raising prices, thanks to strong consumer demand, low stocks and as compensation for the setbacks during the corona crisis, something that is accepted by consumers. Those consumers are in a better position than ever thanks to government subsidies.
US inflation expectations are now roughly where the Fed wants them to be. By the way, the Fed itself indicates that it is mainly watching the development of unemployment. Inflation is allowed to rise until the people who need it most also find a job. These are people who are already in dire straits, but according to the Fed, food prices and housing costs must first rise in order to help the Americans who spend the most on these find jobs. Inflation must come, at any price. It is reminiscent of the 1960s and 1970s, the era of Samuelson and Solow’s Phillips Curve. The idea then was that higher inflation had to be accepted in order to achieve full employment. Then, too, inflation was seen as a temporary phenomenon, but surprisingly quickly the temporary felt permanent. In the coming months, we will see whether everyone can keep calm when inflation is rising. But inflation is like risk. Investors have nothing against risk, as long as it does not cost money.