Of Course There Is Inflation. Why Haven’t We Seen It?

Every month we get an inflation report. We know gas prices have almost doubled in the past two years and food prices have risen significantly, but according to Fed Chairman Bernanke, we are not seeing any significant inflation. What gives? Why is the government reporting such low inflation numbers?

One reason is the way inflation numbers are reported and the way information is played out in the media. For example, inflation for January was +0.4% and +1.6% year-over-year. First of all, it was just “slightly” higher than expected. OK, it doesn’t sound that bad I guess. But what if it would be reported that + 0.4% annualized is +4.8%. Or that over the past year, inflation has risen steadily from a year ago. Or that inflation has risen 26.5 % since 2000 or 164.1% since 1980. In other words, there is not much context to the report and therefore, it is minimized.

Another reason is that the media is obsessed with speed rather than content so rather than a discussion about inflation or its content, they will simply move on to new information tomorrow. Besides, they think everyone is bored any way once they have heard the number.

Another reason is the way inflation moves through the economy. In the early stages of inflation, it generally rises slowly because the numbers are small in the beginning and people do not think that inflation is here to stay so why worry. If it persists, people begin to change their minds. Once they think inflation is here and growing, people begin to react and it begins to rise more rapidly. Since it’s a compounded percent, the longer it goes, the faster it rises.

We have an unusual situation also, The money supply has been increased dramatically (the cause of inflation) but many people including many economists and the Federal Reserve have been or are worried about deflation (definition is money supply contracting) because of lower sales, lower prices in some cases and consumers not spending as they did in 2007. Never mind that consumers haven’t de-leveraged themselves yet from historic levels in 2007.)

Also, the huge increase in money supply has gone to the banks for the most part. They do not need borrowers to make money. They have been putting the money into assets (bonds, stocks, etc.) and investing overseas. We do not count a rising stock market or heavy buying of bonds (which drives interest rates down) as inflation. Yet that is what is happening. So it appears that we are creating an asset bubble at this time, just different than the tech bubble or housing bubble.

We are also exporting much of our inflation to the Chinese: exchanging our higher cost of production for their low cost imports.

One last reason is the huge Federal debt. Imagine what “investments” could be made by the private sector if we didn’t have to pay hundreds of billions of dollars in interest to foreign countries.

That’s some of the reasons we are not “seeing” inflation. We are not looking for it. But it is here and it will be rising throughout the year.

Inflation Is Here And Should Increase Significantly This Year

The Federal Reserve and Chairman Bernanke keep telling us that inflation is not a problem at this time. The “small amount” of inflation that is out there (Consumer Price Index or CPI of 1.5% in December 2010) is nothing to worry about and is manageable. In fact their goal is to get inflation up to 1-2%. Therefore, they need to keep pumping money into the financial system in order to get the economy on solid ground and create jobs.

However, inflation is here now and will most likely get much higher this year. Frank Shostak, an “Austrian School” economist, has written an article showing that there is about a 36 month lag time from an increase in money supply until inflation (as measured by the government) will begin to show up as inflation. Based on that 36 month lag time, he has estimated that inflation (CPI) will rise to 2.4% by September (versus 1.1% last September) and up to 4.4% by December.

Mr. Bernanke prefers the “Core-CPI” (The CPI minus food and energy) because it is less volatile. That inflation index in on the rise also. The estimate is for 1.5% in September and 2.7% by December vs. 0.8% in December of 2010.

Inflation is here and should increase significantly this year. Start to prepare now for a significant erosion in purchasing power and higher interest rates, whether Mr. Bernanke likes it or not.

Why Would the Market Shrug Off a Bad Jobs Report?

One reason could be statistics. There was an alarming plunge in the number of people in the labor market. People drop out for many reasons including going back to school, retired, have given up looking for a job, etc. So, in spite of only creating a net of 35,000 jobs last month, the unemployment rate dropped from 9.4 percent to 9.0 percent. That number sure sounds better.

Another reason might be conflicting surveys. The 35,000 jobs created is from the Payroll Survey which is a survey sent to businesses. This survey is where the government gets the number of jobs created which is reported each month. By the way, the margin of error here is 100,000 jobs. The other survey is the household survey which is a telephone survey. This survey is used to determine the percent of people employed/unemployed. This survey showed a jump in employment of 598,000 jobs which measured against a reduced labor force number resulted in a reduction in unemployment to 9.0 percent.

There are a lot of other statistics that could be analyzed, but the most compelling for me is the amount of new money being pumped into the economy by the Federal Reserve: over $100 billion per month and yet GDP is only rising (or “growing”) by about $40 billion per month. Where this money is going will be the subject of another post. But, this money is levitating the economy and Mr. Bernanke said in testimony last week that until the jobs situation turns around (not sure of his definition but it’s not 35,000 jobs per month) the Fed is going to continue to pump money into the economy. If so, GDP rises which filters into the capital markets. So, what’s a bad number or two?