Good morning & happy Monday!
Buy a continuing process of inflation, government can confiscate, secretly and unobserved, an important part of the wealth of their citizens.
John Maynard Keynes, economist, 1883-1946
Inflation. It’s the lead economic story virtually around the entire globe. You don’t need me to tell you about this because you are feeling it. Prices virtually everywhere are higher. It costs more to drive your car, it costs more to buy school supplies, it costs more to eat … heck, these days it feels like it probably costs more to sleep 😉
I usually avoid too much commentary on ‘the current thing’ for 2 main reasons:
- We are long-term, goal-focused, lifetime investors so short-term headlines have very little impact to our lifetime portfolio goals
- Many times by the time I comment the ‘current thing,’ has already passed and there is a new ‘current thing’ the market is focused on.
But in this case the ‘current thing’ seems to be somewhat stubborn, so I would appreciate the opportunity to provide some perspective and insight.
Two main issues are diving the market currently: inflation and the Federal Reserve’s response to inflation.
I’ll address inflation today and next week I’ll plan on addressing what the Fed is doing (I know you can’t wait for that riveting commentary😉)
So, what is inflation? The fairly standard definition of inflation is “too many dollars chasing too few goods.” What that means in English is people have more money to buy stuff than there is stuff to buy.
This all goes down to the most fundamental of economic concepts: supply and demand. Supply and demand are the levers that control virtually everything regarding economic matters.
When demand exceeds supply generally prices go up. When supply exceeds demand then prices generally go down.
Let’s use an example to illustrate this point.
Let’s say I own a restaurant and I charge $10 for a meal. If every night my restaurant is packed and I am turning away customers because I simply don’t have room … what would I do? I would raise my prices because there is so much demand to eat at my restaurant. If I raise the price to $12 per meal and that results in nice, manageable flow of customers then I would determine that is an appropriate price point.
But, what if things in the economy start to deteriorate and now my restaurant is ½ empty while I am charging $12 per meal? What would I do? I would have to lower my prices to get more customers in the door. If I lower the price to $11 per meal and that seems to give me the right amount of customers to reach maximum profitability then that is what I would charge.
Now, as a restaurant owner I’m not changing my prices every day, but I am constantly evaluating my prices based on demand. If demand is high, I will likely lower my prices. If demand is low, I might be forced to lower my prices.
So, how did we get into this inflationary cycle we are in now?
There is no one simple answer, but Covid government spending would be a major factor.
Do you know how much the US government spend on Covid relief? Prepare yourself, it’s a staggering number. $11 trillion! According to the Committee for a Responsible Federal Budget (wow, an oxymoron if I’ve ever heard one 😉) Covid spending alone was $11 trillion. That’s $11,000,000,000,000! (Covid Money Tracker). I did some calculations (I’m a numbers nerd. I couldn’t help myself). I calculated the size of a $100 bill (6.14 inches long) and the circumference of the earth (24,901 miles) and figured out that if we took put $100 dollar bills side by side we could circle the earth 42,808 times with that many $100 bills! We are talking about insane amounts of money the U.S. government dropped on the pandemic.
To put that into perspective the entire national debt in 2003 was $10.8 trillion. (Understanding the National Debt | U.S. Treasury Fiscal Data)
So in the 227 years from George Washington to George W. Bush we were $10.8 trillion in debt and in a matter of roughly 18 months the U.S. government spend $11 trillion for Covid relief. Does anyone else see a problem here???
So, what that did was completely throw off the demand side of the supply/demand spectrum. People had tons of money to spend, and early in the pandemic nobody was leaving their home to spend it. Once we all started leaving our homes, we started spending money, and bigtime spending is what took place. Demand for goods and services exceeded the supply … so prices went up. To go back to my previous example: the restaurant was packed, so the restaurant owner charged more for the food. This happened to virtually everything. From June 2021 – June 2022 the price off eggs was 33% higher, butter was 21% higher, flour was 19% higher, chicken was 19% higher, milk was 16% higher and baby food was 14% higher. The restaurant not only charged more because demand was so high but also because the prices to get the food into the restaurant were higher too.
Just like you and I do not like inflation, the stock market does not like inflation either. In order to tame inflation, the Federal Reserve has stepped in … and that I will address next week.
Inflation concerns have happened before, and I would have to image they will happen again. This is nothing new, and nothing we have not seen before. Be patient as the market works through this inflationary cycle. Patience is a virtue … and patience will pay off in investing.
Make it a great week ahead!