Here are a few thoughts. It’s going to be an interesting
four years: 2013 – 2016.
The Probable
Future rates of inflation are likely to be driven by current
Federal monetary policy. The Federal Reserve will continue to buy government
debt and agency mortgage bonds to enable monetary liquidity. These moves will
further erode the value of the dollar. As the value of the dollar declines, the
rate of inflation will increase.
As business and consumer loan activity picks up, the money
supply will shift from bank reserves and business cash balances, to money flowing
through the economy. As the speed of the
flow increases, inflation will increase.
Public debt financing, along with entitlement and contract
obligations, will force Federal and State government administrations to
increase taxes. The “Fiscal Cliff” agreements will be trashed. Look for
increases in investment, estate, property, income, sales, and corporate taxes.
The idea that only incomes over $200,000 ($250,000 for married couples) will be
taxed is a politically expedient myth. Every worker will pay more personal income taxes. The cost of living goes
up.
Obama Care, Medicare, and Medicaid costs are out of control.
Few states can afford the cost of proposed and imposed mandates. Medical care
continues to be a critical driver of inflation.
College, university, high school and grammar school costs
will continue to escalate at rates that exceed the base rate of inflation.
An increasing percentage of America’s wealth will be
allocated to public debt service rather than growth investment.
Federal Environmental Protection Agency (EPA) rules will
continue to increase consumption and investment costs, while decreasing
economic growth. Proposed Cap and Trade rules will raise the price of goods and
services for all consumers and businesses. It’s all inflationary.
State environmental, medical, worker’s compensation, welfare
and other laws increase the cost of doing business. Lawmakers typically ignore
the economic damage. The decline of economic activity ensures higher rates of
unemployment. Businesses that manage to survive will have to raise the prices
they charge for the goods and services they sell. (California is the economic model).
Fracking technology has sharply increased the supply of
natural gas. Prices have declined, and natural gas is being substituted for
other fuels in the generation of electricity. It’s all deflationary.
Although fracking technology will increase the recovery
percentages for some existing oil fields, and promises to increase the flow of
oil from new wells, environmental opposition is likely to impede American production.
If there is relative peace in the Middle East and Africa, oil prices are likely
to be stable. If either geographical region experiences a surge of conflict,
then oil prices will go up – perhaps sharply. Prices will increase, and drive a
period of inflation, until the underlying conflict is resolved. World oil
prices primarily impact the consumer through price changes for gasoline,
diesel, propane, kerosene, and heating oil fuels. The price of oil also impacts
the price of food, bulk products made from oil, and transportation intensive
services. (Note 1)
The economy will stall, investment activity will decline,
and the rate of inflation will continue to increase. Current expense items
–including food, fuel, and rents – are particularly vulnerable.
At some point, the stock market will collapse. Aggregate
stock valuations decrease by more than 20 percent.
The Possible
The value of the dollar continues to decline through 2016.
Confidence in the financial viability of the public sector erodes. Several
states will need federal bailouts in order to stay afloat. Public debt ratings
decline. Foreign lenders become reluctant to purchase public debt without significant monetary and financial reforms.
Federal and state agencies will have to pay higher rates of interest in order
to offset the perceived risk of buying public debt. It will become increasingly
difficult and more expensive to sell new bonds, or to roll over maturing issues
of existing public debt. As public sector bond interest rates go up, bonds not
held to maturity will decline in value.
Recession makes it increasingly more expensive to sell new
bonds, or to roll over maturing issues of existing private sector debt. As interest rates go up, bonds not held to
maturity will decline in value.
Under normal market circumstances property values tend to
follow the rate of inflation in other economic sectors. As inflation sets in,
property values will be flat or slightly lower. Bricks and mortar are seen as a
hedge against inflation. Sellers will want to keep their existing properties
because they will expect property values to increase as the value of the dollar
deflates. But for people who are forced to sell, buyers will be more difficult
to find. There will be fewer qualified home buyers. Inflation has eroded their
net worth. They no longer have enough cash to make a down payment. High
interest rates and property taxes decrease the price they can afford to pay for
a home. For a cash buyer, there will be deals (think Argentina).
In periods of high inflation, accompanied by declining
economic activity, rental property owners (homes, apartment buildings, shopping
malls and so on) face potential bankruptcy because of higher vacancy rates. It
will also become increasingly difficult for rents to keep up with ever higher
property, debt, tax, and maintenance costs. Rental property values decline.
With higher taxes and debt costs in place, expect a reduction
of business activity, and a decrease of productive employment. Corporations
will be more reluctant to invest in fixed assets or hire new employees.
Bond devaluations and declining property rents would jeopardize
the asset base that supports existing pension plan and insurance annuity
contract payments.
Annual inflation exceeds 10%.
The Result
Since liberal economic and social philosophy dominates
America’s political agenda, we can expect liberal financial solutions will be
imposed to solve America’s financial problems. Liberal ideology is unlikely to support
the creation of national wealth, and very likely to increase government spending.
Growth in public employment is seen as beneficial. Fiscal discipline is
(deliberately) ignored. The net effect will be to drive America into a long
period of high inflation accompanied by declining business activity, high
unemployment, high underemployment, and an increase in poverty. Expect
widespread social unrest.
Chronic recession accompanied by inflation – that sounds
like Stagflation.
But, I could be wrong. Although the above points do not suggest a
growing and prosperous economy, we can
not ignore the amount of wealth that still exists in America, nor can we forget
the American entrepreneurial spirit. So the economic progress of the next four
years could be substantially better than these points would indicate.
Judge for yourself.
TCE
Note 1: for more information about food and fuel inflation
see: http://www.tceconomist.blogspot.com/2011/05/inflation-parade-of-zombies.html
For an analysis of the relationship between the price of oil
and the rate of inflation, see: http://www.tceconomist.blogspot.com/2011/06/how-does-price-of-oil-change-rate-of.html
1 comment:
so is inflation an inevitability? or could we see periods of harmful deflation at all? like in the 20's the fed expands the money the supply, then the 30's hit and we have catastrophic deflation, are we still in the "20's"?
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