Inflation: temporary scarcity

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In Western economies, few have worried about inflation since the 1980s. Indeed, over the past decade the biggest concern among central bankers has been that prices will fall. But some indicators are finally beginning to flash red.

A heady mix of Western economies slowly re-opening, supply chain bottlenecks, and aggressive US fiscal and monetary policy could brew together and create what many see as a dangerous cocktail for consumer prices.

Over the weekend, we had more data pointing to these concerns being realised as the summer approaches.

First off, at capitalism’s very own Glastonbury — the Berkshire Hathaway annual general meeting in Omaha, Nebraska — CEO Warren Buffett remarked on some of the pricing dynamics the insurance and industrial conglomerate has experienced of late. As a reminder, Berkshire’s business lines including railways, low-cost housing and metal fabrication, and it employs nearly half-a-million people. So the company’s read on inflation is to be taken more seriously than, say, a crypto-bro armed with an M2 chart.

Here’s the key quote from Buffett:

We are seeing very substantial inflation . . . It’s very interesting. We are raising prices. People are raising prices to us and it’s being accepted.

We’ve got nine homebuilders in addition to our manufacture housing and operation, which is the largest in the country. So we really do a lot of housing. The costs are just up, up, up. Steel costs, you know, just every day they’re going up.

The broader manufacturing base in the US echoes that message. In ISM’s manufacturing PMI data released Monday, the prices index rose for the 11th consecutive month and reached its highest levels since July 2008, just before the onset of the financial crisis.

Commodity prices seem important. The FT noted on Monday that there’s talk brewing of a fresh commodity supercycle, with iron ore, copper and palladium all pushing to new highs due to increasing demand for consumer electronics and electric cars. Meanwhile lumber keeps roofing (sorry) thanks to bottlenecks at sawmills, a decade of underinvestment and unprecedented demand for homebuilding and renovations Stateside. And soft commodities are at it too: corn is touching $7 a bushel due to an ongoing drought in Brazil threatening the crop, while soybeans are also close to an all-time-high.

Does this matter in the long term? We’re still not convinced it’s anything other than a temporary phenomenon. Labour markets are far too weak to get us to a place where we see substantial wage growth. It was a wage price-spiral, where higher pay led firms to hike their costs, that led to the persistent inflation seen in the 1970s and 1980s in places such as the UK and the US.

As Oxford Economics put it in a note on the eurozone today, a combination of elevated unemployment, workers on furlough schemes, and the drop in participation rates have weakened workers’ negotiating power. While wages will pick up this year and next, that’s after a sharp fall in a lot of people’s take-home pay in 2020. 

While the US recovery will probably be quicker thanks to Biden’s fiscal policy, we wouldn’t expect Jay Powell to blink on the back of the rise in inflation over the coming months. Grandmaster Jay reiterated on Monday that the Fed will not remove the punchbowl until the labour market’s worst-off have seen their prospects improve. There’s still a long way to go on that score. As Powell noted, the downturn has not fallen evenly on all Americans, and those least able to bear the burden have been the hardest hit by the pandemic.

That stance will become all the more difficult to maintain, though, as more and more inflation data lands over the summer.