The government released the latest inflation data and the results were the worst we have seen in forty years. The retail number came in at 8.4% and the wholesale number clocked in at 11.2%. Of course, the retail number excludes the things that people buy, like food, fuel and housing. These numbers also rely upon the new math rather than old math used the last time inflation was an issue. By the old inflation standard, retail inflation is over 15%.
The political class is poleaxed by these numbers as they have been assured that inflation at these levels was impossible. Modern economic theory says that inflation is caused by too much money chasing too few goods. We now have top men in place to keep an eye out for this. They just need to manage the money supply to keep inflation under control. This assumption led the top men to assume inflation was transitory, the result of supply chain issues.
That should be the first red flag when looking at the economic data. Those top men that are supposed to have a handle on the money supply say they are as surprised as the rest of us that food has doubled in price. A month ago, they were talking about a series of exceedingly small rate hikes. Now they are talking about a series of substantial rate hikes to prevent inflation from going even higher. You get the sense that there is both panic and confusion among those top men.
One reason for this is the long period of historically low interest rates. What the Federal Reserve did forty years ago to tame inflation was remove money from the system by raising borrowing rates. The real creators of money are the banks, who create money through lending. By raising their cost of money creation, they create less money and the result is fewer dollars chasing goods. At its peak in 1980 the 10-year Treasury was going for 15% versus 2% currently.
In other words, getting rates back into the normal range means three or four times the current rates. The world is simply not prepared for such a thing. Think about what happens to the real estate market if rates simply double. Refinancing comes to an end and homes sales collapse. No one is trading out of their home with the 3% mortgage into a home with a 5% mortgage, at least not on purpose. This would be the new reality throughout the financial world.
The other problem with this approach is the massive government debt. The way government handles debt is not like normal people. They issue bonds, pay the holder interest, but never pay them off. Instead, they issue new bonds to pay off the old bonds and the cycle begins anew. Rolling debt like this works as long as the market for new debt looks like the market for old debt. If the Federal government has to start borrowing at two or three times the old rate, it is big trouble.
The other way the Federal reserve can tackle inflation is to sell its massive holdings of equities, treasuries and other assets. The latest balance sheet from the Fed says they are holding about $8 Trillion in assets. They can begin selling which removes cash from the system. Keep in mind that the value of the S&P 500 is about the same as the Fed balance sheet, so this is a powerful option. They added about a trillion in equities during Covid as a way to juice the markets.
Of course, this is not without consequences. If they liquidate that trillion in equities, they hoovered up during Covid, the market will go down. The tens of millions of retired people living on their investments will not be pleased. If they liquidate some of their $4 trillion in treasuries, those assets will lose value, which means the cost of borrowing by the government goes up. This is why monetizing the debt is like eating the seed corn during tough times.
Another problem for the Fed is the politicians have started a global economic war against the majority of the earth’s population. Exporting excess dollars to places like China, India and Russia is no longer possible. In fact, dollars are starting to come back to America in response to sanctions. When Washington declared war on the globe, the globe declared war on the dollar. At least in the short term, exporting extra dollars to the rest of the world is not a viable option.
This is why there is panic in Washington. Biden’s official approval rate is 40% and Congress has an approval rate of 20%. Now they are faced with grim choices that promise to be very unpopular. They can support a war on inflation that will result in a deep recession or they can let inflation rob the public. Worse yet, it is not all that clear the Fed can wage an effective war on inflation. Like a bug trapped in the spider’s web, they have nothing left but panic.
While the suffering of the political class brings joy to most everyone, this means normal people are going to suffer for an extended period. The gap between wholesale inflation and retail inflation says prices will keep rising. The war on the world will also put pressure on commodities like energy and fertilizer. That will put upward pressure on prices at all levels. Wages are not keeping pace, which means everyone is getting poorer by the minute.
When Joe Biden ran for office, he promised a long dark winter. Most people assumed he flubbed his lines, but it turns out he was telling the truth. The long dark winter of mismanagement and manufactured crisis now promises to extend into the summer and autumn. Worse yet, the people who created this mess are now tasked with solving it. It looks like the label for the Joe Biden regime will be the long dark winter of American decline.
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