If it is not wages it is unemployment. If not unemployment it is job availability. If not job availability it is inflation. It seems the Wheel of Mythology landed on inflation this week. I keep hearing about concerns of future inflation, as if this is a new thing. The fact of the matter is that the inflation outlook has been on a nearly straight line path since the first iterations of the COVID crisis hit the economy.
The graph above shows the five year outlook for the breakeven inflation rate calculated from Treasury security data. The red region represents the Trump presidency, and the blue region the Biden presidency with the blue line representing the average since January 2018. COVID hit in 2020 and we saw early concerns about the economy result in a rapid and large drop in the inflation outlook. Rescue packages and enhanced unemployment benefits put some of the concerns about the economic outlook to the side (at least in terms of the END of all things Economics).
We see clearly an expectation that inflation will increase over the next five years, but are we at a panic stage now? Why? The Fed announced it expected inflation above 3% this year and said it would move to raise rates earlier than indicated previously. Let’s be realistic: the Fed proved itself to be feckless enablers with little sense for broader impacts for policy in the last several years. They allowed themselves to be bullied by the bully pulpit. They need to restore their credibility with markets and this is probably their best approach, but it does not forgive the interest rate regime since the financial crisis. Their near zero rate regime initiated the asset price inflation in the markets and allowed it to continue for over a decade. The fact is monetary policy is not alone here. Fiscal policy measures, particularly those in trade matters, increased costs fairly consistently across the Trump presidency. The current Biden proposals are likely to stoke more inflation as well.
The most difficult part of this is that there will be some “natural” inflation coming out of COVID. Consider this some version of “pent-up demand” as people try to make up for lost time or recapture some of what they missed during lockdowns. How much will this be and how long will it last? That is really difficult to say. My first pass is that it will last at least the summer, but as more COVID restrictions drop off there is an opportunity for that to continue beyond the summer and perhaps into 2022.
The fact is we know how to fight inflation and inflation expectations so I am not sure the reason for panic. The concerns did not exist when there was asset price inflation and bubbles occurring on Wall Street. However, as labor issues arise, and the inflation starts to hit the wage bill for companies it is suddenly a problem? This seems problematic to me.