Inflation is still running high, and many still believe that it’s a temporary post-pandemic phenomenon. However, structural changes taking place in the economy suggest that prices may not go back to normal anytime soon.
Some economists and investors have argued that excessive stimulus spending and money creation to fight the pandemic are the real culprits causing inflation. They claim that inflation is a product of policy decisions, rather than a coincidence.
Investors are concerned that the Fed is still behind the curve in reacting to inflation. They fear that the Fed could step on the brake abruptly in the future, plunging the economy into a recession.
“The longer you wait to do something about inflation, the worse it gets,” Schiff said.
A growing federal debt limits a government’s ability to fight inflation. Policymakers are choosing to remain behind the curve as higher interest rates mean that the U.S. government will shoulder a heavier interest burden.
On Christmas Eve 2018, the U.S. stock market suffered one of its steepest declines in decades, and that “exemplified how very difficult and reticent the markets are about having their liquidity taken away,” Booth said.
Oil Shocks
The recent surge in energy, commodity, and food prices has stoked inflation fears, causing many to speculate that we could return to the 1970s, when inflation got out of control.There were two major oil shocks in the 1970s—triggered by the Arab–Israeli War of 1973 and the Iranian Revolution of 1979—which caused large reductions in the supply of energy. Inflation was already running high during that time, but the twin oil crises pushed U.S. inflation into the double digits. The oil crisis produced many lessons for the United States, one of which is putting more emphasis on reducing foreign oil dependence.
Deutsche Bank analyst Henry Allen said the recent surge in gas prices is “reminiscent of what happened with oil in the early 1970s.”
“As the globe tries to further wean itself off fossil fuels, we could have more energy shocks over the course of this decade,” Allen said in a recent report.
“Right now, we’re still a long way from what we saw in the 1970s,” Allen said, but noted that some factors, such as loose monetary policy, a significant level of national debt, labor shortage, and deglobalization “indicate that there are much greater inflationary pressures today.”
Gas was one of the big drivers of inflation in September, rising 42 percent from a year ago. Despite rising oil prices, U.S. producers continue to keep capital expenditure (capex) low, as they’ve been discouraged by current climate policies.
Similarly, metal prices have surged significantly compared to 2020. High energy costs are prompting smelters to cut back on the production of zinc and aluminum globally.
Awash in cash, many oil, metal, and mining companies have been buying back shares or paying dividends, instead of expanding capital expenditures to tackle supply shortages.
The latest surge in coronavirus infections, especially in Southeast Asian countries, has also led to closures of plants and ports, augmenting supply disruptions in semiconductor chips and other raw materials.
Labor Crisis
Besides supply chain disruptions, ongoing labor shortages have become a big problem for U.S. companies. Job openings have raced to record-high levels recently, but many Americans are still reluctant to reenter the workforce.Sara Gordon, vice president and head of customer success at staffing company Adecco, said the pandemic has led to a paradigm shift in the labor market where employees are now “reevaluating their priorities.”
U.S. workers, who have suffered stagnant wages for years, are now seeing a gain in power. Wages in September rose by 4.6 percent compared with 2020, but still can’t keep pace with rising consumer prices.
The pandemic has also accelerated retirement for baby boomers. Many boomers have made careers in blue-collar jobs, Gordon said, hence their exit is causing the blue-collar labor pool to shrink.
Businesses are expected to continue boosting wages and offering more perks to attract and retain workers. Wage increases are much stickier than commodity prices and are less likely to reverse in the short term, according to analysts, causing more inflationary pressures in the economy.
Rising labor costs and surging demand from restaurants that have reopened have also lifted meat prices in recent months. Beef prices increased by 18 percent over the past year, while pork was up by 13 percent and fresh fish and seafood rose by 11 percent.
“I don’t think it will last,” President Joe Biden said when asked about inflation during a CNN town hall in Baltimore on Oct. 21.
But whether inflation continues into 2022 will depend on whether Congress approves his infrastructure and social spending packages, Biden said.
When asked about high gas prices, Biden blamed the OPEC cartel for not producing enough oil. He later said the answer to the gas shortage is “investing in renewable energy.”
Biden also said he would consider using the National Guard to assist with supply chain and trucking problems.
How Long Is Transitory?
The Federal Reserve says that inflation is elevated mainly because of factors that are “transitory,” and once these factors fade, inflation will drop back toward its 2 percent target.But the question of how long, exactly, is “transitory” remains unanswered. So far, Fed officials and many economists have failed to forecast inflation correctly. The central bank considerably raised its inflation forecasts for 2021 three times this year.
Wouter Sturkenboom, chief investment strategist at Northern Trust, said the recent spike in prices will prove transitory.
Instead, transitory inflation can be fixed, either through the underlying supply and demand conditions being resolved on their own or through intervention, such as the Fed’s raising interest rates to constrict demand, he noted.
The Fed is planning to roll back its $120 billion per month bond-buying program. Fed Chairman Jerome Powell said the central bank is “on track” to complete tapering by mid-2022.
Speaking at a virtual conference on Oct. 22, Powell admitted that “supply-side constraints have gotten worse.”
“The risks are clearly now to longer and more-persistent bottlenecks, and thus to higher inflation,” he said.
Fed officials have repeatedly given assurances that they have the tools to fight inflation, should it become worse. Raising rates is the most effective way for the Fed to control inflation.