Inflation - Burning Money - Cash - US Dollar - Purchasing Power - Waste

Why the 2020s Decade Will Likely Be Inflationary

Intro

One of the biggest macroeconomic debates of today is whether we’ll experience inflation or deflation over the coming years. If you survey 50 economists, you’ll come up with 50 different answers. However, after much research, our opinion is that the 2020s decade will likely be inflationary in terms of the purchasing power of the US dollar (USD) within the United States. We explain our reasons why, supported by data, as well as deflationary risks that consumers and investors should be mindful of. It should be noted that although we expect inflation in aggregate, we also believe that, similar to the 1940s and 1970s, we’ll likely experience volatile waves of inflation and deflation. This presents risks and opportunities to consumers and investors who follow these macroeconomic trends.

Podcast

1
00:00:00,000 –> 00:00:14,480
Welcome back to the Bigger Insights Finance podcast, where we’ll help you build a life

2
00:00:14,480 –> 00:00:17,080
you don’t need a vacation from.

3
00:00:17,080 –> 00:00:23,520
Let’s talk about this transitory inflation that’s turning out to be not so transitory.

4
00:00:23,520 –> 00:00:29,280
People in the financial space have been debating whether we’re looking at inflationary or deflationary

5
00:00:29,280 –> 00:00:31,920
problem ever since 2020.

6
00:00:31,920 –> 00:00:37,280
So let’s shed some light on that. But first let’s go over a few quick caveats.

7
00:00:37,280 –> 00:00:43,640
We’re going to be focusing on the purchasing power of the US dollar within the United States,

8
00:00:43,640 –> 00:00:49,040
but much of this will probably be pretty applicable to other Western countries.

9
00:00:49,040 –> 00:00:56,000
We acknowledge that the CPI has been declining and we expect it to cyclically decline until

10
00:00:56,000 –> 00:00:59,120
we fire up the old printing presses again.

11
00:00:59,120 –> 00:01:06,440
Our opinion is that the 2020s will prove to be inflationary, but we also expect to experience

12
00:01:06,440 –> 00:01:13,600
several disinflationary, possibly even deflationary periods throughout the decade.

13
00:01:13,600 –> 00:01:19,240
Also note that we wrote an article on this on our website, BiggerInsights.com.

14
00:01:19,240 –> 00:01:24,600
That was produced August 1st, 2022, so go check that out if you’re interested.

15
00:01:24,600 –> 00:01:29,680
If you’re not on Spotify, we also produce video content for each episode, which you

16
00:01:29,680 –> 00:01:33,000
can watch on Spotify or our website.

17
00:01:33,000 –> 00:01:39,520
If you actually look at the CPI through the 40s and the 70s, which we acknowledge is pretty

18
00:01:39,520 –> 00:01:44,080
dubious, you know, people don’t call it the CPLie for no reason.

19
00:01:44,080 –> 00:01:49,240
But if you look at it, you’ll see what we’re talking about regarding these cycles of inflation

20
00:01:49,240 –> 00:01:50,920
and deflation.

21
00:01:50,920 –> 00:01:56,840
When you unleash the inflation genie, it can be very difficult to put it back in the bottle.

22
00:01:56,840 –> 00:02:00,160
This is why you see these violent oscillations.

23
00:02:00,160 –> 00:02:05,960
You see policymakers trying to quell inflation without demolishing the economy.

24
00:02:05,960 –> 00:02:08,000
That’s easier said than done.

25
00:02:08,000 –> 00:02:12,640
And just to be clear, we’re not glorifying policymakers in any regard.

26
00:02:12,640 –> 00:02:18,160
We think what they’re doing with monetary and fiscal policies is absolutely atrocious and

27
00:02:18,160 –> 00:02:22,000
we would prefer to allow the free market to sort these problems out.

28
00:02:22,000 –> 00:02:23,000
But what do we know?

29
00:02:23,000 –> 00:02:29,480
But real quick, let’s define inflation, disinflation and deflation to make sure that we’re all

30
00:02:29,480 –> 00:02:31,320
on the same page.

31
00:02:31,320 –> 00:02:37,880
We’ve listened to Lacy Hunt, Jim Rickards, Lyn Alden, Cathie Wood, Harry Dent, Peter Schiff,

32
00:02:37,880 –> 00:02:45,800
Ray Dalio, Warren Buffett, Rick Rule, Jim Rogers, Paul Tudor Jones, and others quite

33
00:02:45,800 –> 00:02:47,240
extensively.

34
00:02:47,240 –> 00:02:51,920
If you follow their work, you’ll see that some of these characters are heavily in the

35
00:02:51,920 –> 00:02:55,840
inflation camp and others are in the deflation camp.

36
00:02:55,840 –> 00:02:59,480
Our conclusion from this is that they’re all generally right.

37
00:02:59,480 –> 00:03:05,440
But the differences in their arguments largely boil down to semantics and timing.

38
00:03:05,440 –> 00:03:11,400
One of the most frustrating things about economics is how much time everyone spends arguing

39
00:03:11,400 –> 00:03:13,320
about semantics.

40
00:03:13,320 –> 00:03:18,320
We’ve listened to entire debates where one person says inflation is the expansion of

41
00:03:18,320 –> 00:03:24,320
the money supply and the other argues it’s the CPI or some other measure of prices.

42
00:03:24,320 –> 00:03:28,800
At the end of the day, it doesn’t matter because those are separate things.

43
00:03:28,800 –> 00:03:30,760
We can call them whatever we want.

44
00:03:30,760 –> 00:03:33,600
We can call one of them an apple and the other a banana.

45
00:03:33,600 –> 00:03:39,480
So let’s just be clear about how we’re defining these terms when we have a discussion.

46
00:03:39,480 –> 00:03:43,160
If we’re talking about money supply, let’s talk money supply.

47
00:03:43,160 –> 00:03:46,360
If we’re talking CPI, let’s talk CPI.

48
00:03:46,360 –> 00:03:52,360
We like defining inflation as the expansion of money and credit because it’s easy to define

49
00:03:52,360 –> 00:03:53,760
and measure.

50
00:03:53,760 –> 00:03:58,560
There is a link between the expansion of the money supply and certain prices, but this

51
00:03:58,560 –> 00:04:04,760
is where things get very gray because inflation can affect the prices of goods, services,

52
00:04:04,760 –> 00:04:10,200
and assets disproportionately depending on the number of factors like how the money is

53
00:04:10,200 –> 00:04:16,720
created, who gets it, the strength of the economy, and the velocity of that money.

54
00:04:16,720 –> 00:04:24,760
This explains why the CPI was relatively low in the 2010s despite QE and other expansionary

55
00:04:24,760 –> 00:04:26,240
policies.

56
00:04:26,240 –> 00:04:30,320
There was price inflation, but not consumer price inflation (CPI).

57
00:04:30,320 –> 00:04:36,920
The price inflation was mostly in assets because QE was injecting money into Wall Street, not

58
00:04:36,920 –> 00:04:38,560
Main Street.

59
00:04:38,560 –> 00:04:44,400
But for the purpose of this episode, we’re going to talk about inflation, disinflation,

60
00:04:44,400 –> 00:04:51,400
and deflation in terms of consumer prices, relative to the Fed’s 2% target.

61
00:04:51,400 –> 00:04:57,920
So in other words, if we use the Fed’s 2% CPI target as our baseline, we’re arguing

62
00:04:57,920 –> 00:05:03,880
that we expect the United States dollar to lose purchasing power in terms of goods

63
00:05:03,880 –> 00:05:11,600
and services within the US at an annualized rate faster than 2% over this decade.

64
00:05:11,600 –> 00:05:18,600
Let’s also distinguish purchasing power from the United States dollar index or the DXY.

65
00:05:18,600 –> 00:05:23,680
We define purchasing power in terms of what goods and services Americans can actually

66
00:05:23,680 –> 00:05:27,680
buy with their dollars, not in terms of the DXY.

67
00:05:27,680 –> 00:05:33,240
The DXY can be very misleading because all it really does is report the strength of the

68
00:05:33,240 –> 00:05:38,880
dollar relative to other fiat currencies that often have larger issues.

69
00:05:38,880 –> 00:05:42,520
This is kind of like how you shouldn’t compare yourself to others.

70
00:05:42,520 –> 00:05:48,320
You may think to yourself, “Yeah, well, you know, my net worth is only $8,000, but most

71
00:05:48,320 –> 00:05:52,400
people I know are broke, so I’m actually doing relatively well.”

72
00:05:52,400 –> 00:05:56,880
We don’t like that attitude in life or when it comes to the dollar.

73
00:05:56,880 –> 00:06:02,000
For most people, it doesn’t really matter how high the DXY is if they’re struggling

74
00:06:02,000 –> 00:06:09,600
to afford basic necessities because the dollar is losing so much purchasing power in reality.

75
00:06:09,600 –> 00:06:15,800
And just as a little side quest, you might be wondering why the Fed has this 2% target.

76
00:06:15,800 –> 00:06:19,920
As far as we can tell, they pretty much just made this up.

77
00:06:19,920 –> 00:06:23,800
Most people seem to agree that 3% is too high.

78
00:06:23,800 –> 00:06:29,000
So they probably figure that they can just get away with 2% without anyone really noticing

79
00:06:29,000 –> 00:06:30,840
or whining about it.

80
00:06:30,840 –> 00:06:35,160
This reminds me of that meme with that kid at the science fair.

81
00:06:35,160 –> 00:06:40,280
He was standing next to this project board that said, “How much sawdust can you put in

82
00:06:40,280 –> 00:06:43,600
a Rice Krispie treat before people notice?”

83
00:06:43,600 –> 00:06:45,360
This is the Fed’s scam.

84
00:06:45,360 –> 00:06:50,080
“How much purchasing power can we steal before people notice?”

85
00:06:50,080 –> 00:06:53,480
And they think that that rate is 2%.

86
00:06:53,480 –> 00:06:59,880
So to wrap that up, we’re defining inflation as loss of purchasing power, deflation as

87
00:06:59,880 –> 00:07:06,240
a gain in purchasing power, and disinflation as the slowing of the rate of inflation, in

88
00:07:06,240 –> 00:07:07,240
this episode.

89
00:07:07,240 –> 00:07:12,640
Alright, so now what we’re going to do is go over several inflationary pressures so

90
00:07:12,640 –> 00:07:16,240
you can understand where we stand on this issue.

91
00:07:16,240 –> 00:07:21,000
We’re also going to go over some deflationary pressures later on in this episode to play

92
00:07:21,000 –> 00:07:22,880
devil’s advocate.

93
00:07:22,880 –> 00:07:27,600
The first inflationary pressure is our mountains of debt.

94
00:07:27,600 –> 00:07:33,160
We’re sure that Lacy Hunt would cringe over us saying that because non-productive debt

95
00:07:33,160 –> 00:07:36,520
is generally a drag on your purchasing power.

96
00:07:36,520 –> 00:07:39,720
If you’re in a lot of debt right now, you know how this feels.

97
00:07:39,720 –> 00:07:43,240
However, that’s because you don’t have a printing press.

98
00:07:43,240 –> 00:07:48,120
But imagine for a moment that all of your debts were denominated in a currency that

99
00:07:48,120 –> 00:07:49,600
you could print.

100
00:07:49,600 –> 00:07:54,840
Would you pay all of that back responsibly, or would you print some money and inflate

101
00:07:54,840 –> 00:07:56,480
some of that debt away?

102
00:07:56,480 –> 00:08:01,320
We’re pretty confident that you would choose the latter, and we’re very confident that our

103
00:08:01,320 –> 00:08:04,720
overlords in Washington will do the same.

104
00:08:04,720 –> 00:08:11,720
We are an over-indeaded country, and the history of over-indeaded nations is very clear.

105
00:08:11,720 –> 00:08:15,320
They almost always print their way out.

106
00:08:15,320 –> 00:08:20,240
When a government has too much debt, there are two primary ways of addressing this.

107
00:08:20,240 –> 00:08:25,560
They can handle this the honest way, which is a default in nominal terms. Which means

108
00:08:25,560 –> 00:08:30,440
you either underpay your creditors or just don’t pay them at all.

109
00:08:30,440 –> 00:08:33,040
Option two is the dishonest way.

110
00:08:33,040 –> 00:08:39,040
You default on your obligations in real terms by printing money and paying your debts in

111
00:08:39,040 –> 00:08:41,440
devalued currency.

112
00:08:41,440 –> 00:08:45,840
History also shows that the US is no stranger to this phenomenon.

113
00:08:45,840 –> 00:08:52,520
In fact, we had very similar levels of debt as a percentage of GDP in the 1940s.

114
00:08:52,520 –> 00:08:56,940
How did we get ourselves out of that hole, you might be wondering?

115
00:08:56,940 –> 00:08:59,320
We devalued the dollar.

116
00:08:59,320 –> 00:09:01,760
Why would this time be any different?

117
00:09:01,760 –> 00:09:06,240
To make matters worse, we don’t just have high levels of government debt.

118
00:09:06,240 –> 00:09:10,040
We also have high levels of corporate and personal debt.

119
00:09:10,040 –> 00:09:15,200
If interest rates were allowed to rise to free market levels, this would all but bankrupt

120
00:09:15,200 –> 00:09:20,640
the government, many corporations, and a large portion of the US population.

121
00:09:20,640 –> 00:09:26,600
Needless to say, we just don’t see that happening because that would be political suicide.

122
00:09:26,600 –> 00:09:31,800
Instead, we think that inflating our collective debts away is much more likely.

123
00:09:31,800 –> 00:09:38,640
However, we also acknowledge that our mountains of debt in the United States may eventually

124
00:09:38,640 –> 00:09:44,240
result in deflation, but we don’t think that that’s really going to happen until the rest

125
00:09:44,240 –> 00:09:49,840
of the world decides to stop allowing us to print our way out of our problems.

126
00:09:49,840 –> 00:09:54,480
We just don’t see that as being a likely scenario in the 2020s.

127
00:09:54,480 –> 00:10:01,360
Now let’s talk about monetary and fiscal policy and how this got us into this inflationary

128
00:10:01,360 –> 00:10:04,440
mess that we’re dealing with right now.

129
00:10:04,440 –> 00:10:09,200
Monetary and fiscal policy are large contributors to inflation.

130
00:10:09,200 –> 00:10:14,040
Let’s talk about why inflation is so high at the present time. Although there are many

131
00:10:14,040 –> 00:10:18,080
factors, we believe these are the largest ones.

132
00:10:18,080 –> 00:10:19,240
1.

133
00:10:19,240 –> 00:10:21,080
Increasing aggregate demand.

134
00:10:21,080 –> 00:10:28,120
We increased aggregate demand dramatically in the COVID era with both fiscal and monetary

135
00:10:28,120 –> 00:10:29,280
support.

136
00:10:29,280 –> 00:10:38,040
We saw stimulus checks, PPP loans, mortgage forbearance, eviction* moratoriums, expanded unemployment,

137
00:10:38,040 –> 00:10:40,760
expanded child tax credit (CTC), and so on.

138
00:10:40,760 –> 00:10:46,200
On the monetary side, we saw monetization of fiscal spending, recklessly accommodative

139
00:10:46,200 –> 00:10:52,280
policy, and being way behind the curve due to the false belief that inflation was just

140
00:10:52,280 –> 00:10:53,280
transitory.

141
00:10:53,280 –> 00:11:00,240
So, not only did we just make it rain helicopter money, but we also dramatically reduced the

142
00:11:00,240 –> 00:11:03,200
expenses of a lot of Americans.

143
00:11:03,200 –> 00:11:09,160
This gave them an unprecedented, artificial boost to their purchasing power so they went

144
00:11:09,160 –> 00:11:12,200
out and spent money like drunken sailors.

145
00:11:12,200 –> 00:11:13,880
But wait, there’s more.

146
00:11:13,880 –> 00:11:19,960
In addition to dramatically increasing aggregate demand, we also dramatically reduced supply

147
00:11:19,960 –> 00:11:24,520
of goods and services. Because believe it or not, when you’ve locked down the economy

148
00:11:24,520 –> 00:11:31,000
and imposed other restrictions and mandates, that reduces the supply of labor and goods

149
00:11:31,000 –> 00:11:32,480
and services.

150
00:11:32,480 –> 00:11:39,600
So picture this, we had millions of people sitting at home on the couch with fake money

151
00:11:39,600 –> 00:11:42,560
pouring into their checking account from the government.

152
00:11:42,560 –> 00:11:46,520
They couldn’t really do a whole lot because of the lockdowns. So what did they do?

153
00:11:46,520 –> 00:11:49,640
They just went on a big spending spree.

154
00:11:49,640 –> 00:11:55,360
This was a real double whammy, so it shouldn’t be a surprise to anybody that we had inflation.

155
00:11:55,360 –> 00:12:00,080
And you might not think that that’s a big deal because maybe you didn’t get much because

156
00:12:00,080 –> 00:12:02,880
your income’s a little bit higher or something like that.

157
00:12:02,880 –> 00:12:10,480
Just keep in mind that we increased M2 money supply approximately 40% during this time.

158
00:12:10,480 –> 00:12:11,720
That’s not a typo.

159
00:12:11,720 –> 00:12:14,400
That’s 40%, 4-0.

160
00:12:14,400 –> 00:12:18,640
And we’re of the opinion that this story probably isn’t over.

161
00:12:18,640 –> 00:12:24,120
We could very well see further supply and demand imbalances due to any number of things

162
00:12:24,120 –> 00:12:30,880
like a new pandemic or COVID variant, a dramatic increase in military spending due to escalations

163
00:12:30,880 –> 00:12:38,640
in Ukraine or Taiwan, some form of universal basic income (UBI), student loan forgiveness, reparations,

164
00:12:38,640 –> 00:12:42,080
CBDC, or additional climate spending.

165
00:12:42,080 –> 00:12:45,480
A CBDC is a Central Bank Digital Currency.

166
00:12:45,480 –> 00:12:50,400
We’re probably going to do a separate episode on that, but the major concern there is that

167
00:12:50,400 –> 00:12:57,960
if we do get a CBDC, that it will be used for highly inflationary monetary policies.

168
00:12:57,960 –> 00:13:03,040
So let’s put our detective hats on and ask the question, Cui bono?

169
00:13:03,040 –> 00:13:07,880
“Cui bono?” is a Latin phrase meaning to whom is it a benefit?

170
00:13:07,880 –> 00:13:13,920
The question is, does the government benefit from inflation or deflation?

171
00:13:13,920 –> 00:13:20,760
Because it stands to reason that they’re going to err on the side that benefits their interests.

172
00:13:20,760 –> 00:13:23,600
There are two sides to every transaction.

173
00:13:23,600 –> 00:13:28,160
When it comes to debt, there’s a creditor and a debtor.

174
00:13:28,160 –> 00:13:33,840
Inflation benefits the debtor because it allows the debtor to pay back his creditor

175
00:13:33,840 –> 00:13:36,200
with less purchasing power.

176
00:13:36,200 –> 00:13:41,600
As Jim Rogers likes to say, “The US is the biggest debtor nation in the history of the

177
00:13:41,600 –> 00:13:48,240
world.” So it’s obviously beneficial to the US government to promote inflationary policies.

178
00:13:48,240 –> 00:13:54,160
The federal government benefits tremendously from inflation for the following reasons.

179
00:13:54,160 –> 00:13:59,800
1. It can buy votes with money it doesn’t have by debasing the currency.

180
00:13:59,800 –> 00:14:05,720
2. Capital gains taxes increase because assets are artificially inflated.

181
00:14:05,720 –> 00:14:09,640
Keep in mind that capital gains are calculated in nominal terms.

182
00:14:09,640 –> 00:14:16,680
So if we have 10% inflation, you buy a stock for $100 and sell it a year later for $110.

183
00:14:16,680 –> 00:14:21,080
You haven’t made a single penny in terms of purchasing power, but you would still need

184
00:14:21,080 –> 00:14:23,840
to pay taxes on that $10.

185
00:14:23,840 –> 00:14:30,360
The third reason is that our progressive tax system robs income earners in an inflationary

186
00:14:30,360 –> 00:14:35,680
environment by artificially pushing them up into higher tax brackets.

187
00:14:35,680 –> 00:14:41,720
Inflation also artificially increases people’s nominal wages, which pushes them out of certain

188
00:14:41,720 –> 00:14:45,920
deductions and credits that they may have otherwise received.

189
00:14:45,920 –> 00:14:52,440
And the fifth reason is because inflation erodes the value of certain government obligations

190
00:14:52,440 –> 00:14:55,440
like social security payments, for example.

191
00:14:55,440 –> 00:15:00,360
And right now you might be thinking, “Well, that’s not quite true because the tax brackets

192
00:15:00,360 –> 00:15:06,880
and deductions and credits and transfer payments and stuff are all indexed to the CPI.”

193
00:15:06,880 –> 00:15:14,200
And that’s basically true, but the question is how accurate is the CPI?

194
00:15:14,200 –> 00:15:19,000
And we’ll probably go over this in a separate episode, but we don’t agree with the CPI.

195
00:15:19,000 –> 00:15:24,440
We think it dramatically understates the real rate of inflation, which again goes back to

196
00:15:24,440 –> 00:15:29,960
the question, who benefits? The government benefits. If they can tell you that the inflation

197
00:15:29,960 –> 00:15:35,920
rate is 2%, then they can get away with increasing your social security and other payments by

198
00:15:35,920 –> 00:15:36,920
2%.

199
00:15:36,920 –> 00:15:41,920
When in reality, it’s more like 4% or 5%, then they get to pocket the spread.

200
00:15:41,920 –> 00:15:46,680
So they have a huge incentive to understate the CPI.

201
00:15:46,680 –> 00:15:52,720
So yes, they are going to index the social security payments to the CPI to some degree.

202
00:15:52,720 –> 00:15:56,960
But we would bet that for the younger people who are listening to this, by the time you

203
00:15:56,960 –> 00:16:02,160
retire, those checks probably aren’t going to have nearly as much purchasing power as

204
00:16:02,160 –> 00:16:03,920
they do today.

205
00:16:03,920 –> 00:16:09,160
So to wrap up this inflationary pressure, that being the government’s incentive to create

206
00:16:09,160 –> 00:16:15,400
inflation, it’s very clear to us that they can create inflation, and they greatly benefit

207
00:16:15,400 –> 00:16:16,400
from it,

208
00:16:16,400 –> 00:16:19,280
so why would they not take advantage of that?

209
00:16:19,280 –> 00:16:20,680
That’s our question to you.

210
00:16:20,680 –> 00:16:26,680
Do you believe that the government will refrain from creating inflation because being

211
00:16:26,680 –> 00:16:29,480
fiscally responsible is the right thing to do?

212
00:16:29,480 –> 00:16:32,720
We give that a very low probability.

213
00:16:32,720 –> 00:16:37,520
The next inflationary pressure we see is geopolitical tensions.

214
00:16:37,520 –> 00:16:43,240
You know, despite the fact that inflation was a major and growing problem before the

215
00:16:43,240 –> 00:16:48,840
invasion of Ukraine, Biden likes to refer to this as Putin’s Price Hike.

216
00:16:48,840 –> 00:16:53,800
We’re pleased to see that no one with a pulse bought this political theater.

217
00:16:53,800 –> 00:16:59,040
So putting the blame for our inflation on Putin didn’t last very long, but we can

218
00:16:59,040 –> 00:17:03,280
admit that the war in Ukraine certainly isn’t helping the inflation issue.

219
00:17:03,280 –> 00:17:09,240
And I hate to say it, but we believe that this conflict is far from over.

220
00:17:09,240 –> 00:17:15,440
We’re not suggesting that this specific issue in Ukraine won’t settle down anytime soon,

221
00:17:15,440 –> 00:17:19,200
but we see tensions rising, not falling.

222
00:17:19,200 –> 00:17:24,000
And if we do come to some sort of peace agreement in Ukraine, we think that we’re going to

223
00:17:24,000 –> 00:17:31,600
see other conflicts potentially involving China, Taiwan, and the U.S. more directly.

224
00:17:31,600 –> 00:17:38,840
If we do, this will add more gas to the inflationary fire by taking commodities offline, hindering

225
00:17:38,840 –> 00:17:43,480
supply chains, and how are we going to pay for all this?

226
00:17:43,480 –> 00:17:46,200
You guessed it, with mouse-click money.

227
00:17:46,200 –> 00:17:50,440
And there are several reasons why we think tensions are increasing.

228
00:17:50,440 –> 00:17:54,840
One is the weaponization of the U.S. dollar and the SWIFT system.

229
00:17:54,840 –> 00:18:00,160
We obviously don’t condone conflict, but one of the key properties of a global reserve

230
00:18:00,160 –> 00:18:02,880
currency is that it should be neutral.

231
00:18:02,880 –> 00:18:08,280
As soon as that changes, it creates serious concerns for dollar holders outside of the

232
00:18:08,280 –> 00:18:14,720
U.S., particularly in those nations that don’t exactly see eye-to-eye with the U.S.

233
00:18:14,720 –> 00:18:20,200
The U.S. has also seized boats and other assets from Russian citizens.

234
00:18:20,200 –> 00:18:21,920
This is completely bizarre.

235
00:18:21,920 –> 00:18:27,640
I mean, imagine the hell that would have broken loose if some government was seizing assets

236
00:18:27,640 –> 00:18:33,720
from American citizens because we invaded Iraq or dropped drone strikes in God knows

237
00:18:33,720 –> 00:18:35,520
how many countries now.

238
00:18:35,520 –> 00:18:40,640
We bring this up because we think there’s going to be serious backlash over this over

239
00:18:40,640 –> 00:18:42,360
the longer term.

240
00:18:42,360 –> 00:18:48,160
We also recognize that what’s going on in Ukraine is far from a dispute just between

241
00:18:48,160 –> 00:18:49,880
Ukraine and Russia.

242
00:18:49,880 –> 00:18:52,280
There are a lot of cooks in this kitchen now.

243
00:18:52,280 –> 00:18:57,560
There are so many players and so much money that this is really looking like a proxy

244
00:18:57,560 –> 00:19:03,840
war between the East and the West, where Ukraine just happens to be the epicenter.

245
00:19:03,840 –> 00:19:09,120
If this really is the case, it probably won’t stop with Ukraine.

246
00:19:09,120 –> 00:19:12,680
And we could go on forever on that, so we’ll just stop it there.

247
00:19:12,680 –> 00:19:18,640
We might do an episode on that in more detail in the future, but now let’s move on to commodity

248
00:19:18,640 –> 00:19:20,280
shortages.

249
00:19:20,280 –> 00:19:24,800
The thing that you need to understand about the commodity sector is that it’s highly

250
00:19:24,800 –> 00:19:25,800
cyclical.

251
00:19:25,800 –> 00:19:32,600
It goes through these very large boom and bust cycles because when commodity prices are high,

252
00:19:32,600 –> 00:19:38,920
it attracts a huge amount of capital and investment that brings a tremendous amount of new commodities

253
00:19:38,920 –> 00:19:42,960
online, which makes the prices go down like a stone.

254
00:19:42,960 –> 00:19:49,560
What’s important about that is, one of the reasons why inflation was so low in the 2010s,

255
00:19:49,560 –> 00:19:55,880
was because consumers were blessed with very low commodity prices due to a large oversupply

256
00:19:55,880 –> 00:19:57,560
from prior years.

257
00:19:57,560 –> 00:20:02,920
However, those chickens are going to come home to roost because one of the consequences

258
00:20:02,920 –> 00:20:10,560
of those low commodity prices was a chronic and large underinvestment in commodity production.

259
00:20:10,560 –> 00:20:17,440
We started to see these cracks appear in 2021 and 2022 in the energy space.

260
00:20:17,440 –> 00:20:22,800
One of the reasons why we were seeing such high gas and diesel prices was because we’ve

261
00:20:22,800 –> 00:20:27,280
been neglecting our refinery capacity for decades.

262
00:20:27,280 –> 00:20:33,600
Last I heard, we haven’t built any new meaningful refining capacity in the United States for

263
00:20:33,600 –> 00:20:36,240
something like 40 years.

264
00:20:36,240 –> 00:20:41,440
Part of that may be due to environmental and political constraints, but the other part

265
00:20:41,440 –> 00:20:46,000
is falling energy prices over the last several years.

266
00:20:46,000 –> 00:20:52,080
We came across a very interesting chart just the other day which showed the relative values

267
00:20:52,080 –> 00:20:54,720
of equities and commodities.

268
00:20:54,720 –> 00:21:00,800
Historically, commodities are very cheap today, at least relative to equities.

269
00:21:00,800 –> 00:21:06,960
It stands to reason that due to this, our lack of investment in the commodity space,

270
00:21:06,960 –> 00:21:12,640
and the geopolitical tensions that we discussed, commodity prices will probably rise in this

271
00:21:12,640 –> 00:21:13,840
decade.

272
00:21:13,840 –> 00:21:19,200
Many are even going as far as to say that we’re entering the next commodity supercycle.

273
00:21:19,200 –> 00:21:25,760
However, even if they rise only by a reasonable amount, this will significantly add to inflation.

274
00:21:25,760 –> 00:21:30,240
Now you might be thinking, “Okay, well, that’s fine.

275
00:21:30,240 –> 00:21:33,960
Commodity prices might rise a little bit, but then you know the free market will come

276
00:21:33,960 –> 00:21:38,640
to the rescue and bring new supply to the market and those prices will come back down.”

277
00:21:38,640 –> 00:21:43,520
That might be true to some degree, but one of the things that you need to recognize is

278
00:21:43,520 –> 00:21:51,120
that bringing new commodities online can take years or decades in normal circumstances.

279
00:21:51,120 –> 00:21:57,360
Many mines, for example, take something like 10 to 15 years to start producing.

280
00:21:57,360 –> 00:21:59,360
And again, that’s in normal times.

281
00:21:59,360 –> 00:22:01,640
These are not normal times.

282
00:22:01,640 –> 00:22:08,320
We’re seeing increasing hostility toward mining and even farming in the name of climate change.

283
00:22:08,320 –> 00:22:10,360
But just think about that for a minute.

284
00:22:10,360 –> 00:22:15,680
We all want our solar panels and windmills and Teslas and things like that, but you can’t

285
00:22:15,680 –> 00:22:20,200
have any of those things without major mining operations.

286
00:22:20,200 –> 00:22:26,400
It’s getting very difficult to start and operate a mine, not to mention all the equipment that’s

287
00:22:26,400 –> 00:22:31,960
used for mining is powered by oil, which nobody wants to drill for.

288
00:22:31,960 –> 00:22:34,320
So how is this supposed to work?

289
00:22:34,320 –> 00:22:39,880
They say that the cure for high prices is high prices in that higher prices bring new

290
00:22:39,880 –> 00:22:45,360
supply to the market, which depresses prices. But we think that’s not going to be as effective

291
00:22:45,360 –> 00:22:47,320
as it normally is.

292
00:22:47,320 –> 00:22:52,360
The next time the global economy starts to boom, we are quite confident that commodity

293
00:22:52,360 –> 00:22:58,400
shortages are going to be a very serious issue, which will increase inflation.

294
00:22:58,400 –> 00:23:02,520
Now let’s talk about supply chains and de-globalization.

295
00:23:02,520 –> 00:23:07,840
When governments around the world locked down their economies, this causes massive damage.

296
00:23:07,840 –> 00:23:10,760
To make things look better than they actually were,

297
00:23:10,760 –> 00:23:15,080
we just papered it over by injecting trillions into the economy.

298
00:23:15,080 –> 00:23:20,440
However, we don’t believe that we’ll fully feel the effects of those lockdowns for years

299
00:23:20,440 –> 00:23:21,840
to come.

300
00:23:21,840 –> 00:23:26,200
One does not simply turn an economy on and off like a light switch.

301
00:23:26,200 –> 00:23:27,720
It’s not that simple.

302
00:23:27,720 –> 00:23:33,280
Many businesses that took years to build were destroyed in the process, which is still playing

303
00:23:33,280 –> 00:23:34,480
out.

304
00:23:34,480 –> 00:23:40,760
Some companies that were able to scrape by are now on the verge of bankruptcy again because

305
00:23:40,760 –> 00:23:45,280
interest rates have gone way up and lending standards are very tight.

306
00:23:45,280 –> 00:23:51,360
This may increase inflation because it reduces the availability of goods and services.

307
00:23:51,360 –> 00:23:56,600
Let’s say you owned a small trucking company that went out of business because of the lockdowns,

308
00:23:56,600 –> 00:24:02,600
high diesel prices, and other issues. That puts upward pressure on the cost of shipping

309
00:24:02,600 –> 00:24:06,680
goods because now there are fewer trucks to move those goods.

310
00:24:06,680 –> 00:24:08,640
And this isn’t just a U.S. problem.

311
00:24:08,640 –> 00:24:11,040
This is a worldwide issue.

312
00:24:11,040 –> 00:24:17,080
If you follow the news at all, you’ve probably heard people talking about de-globalization,

313
00:24:17,080 –> 00:24:22,120
on-shoring, reshoring, near-shoring, and friend-shoring.

314
00:24:22,120 –> 00:24:26,800
These are all just fancy terms for bringing production closer to home.

315
00:24:26,800 –> 00:24:31,680
We’re not quite sure to what extent that’s actually going to play out. But to the extent

316
00:24:31,680 –> 00:24:35,120
that it does, that’s going to increase prices.

317
00:24:35,120 –> 00:24:41,840
You know, we don’t make PCBs and bicycles and things like that in China for no reason.

318
00:24:41,840 –> 00:24:44,360
We don’t make them there because we like them.

319
00:24:44,360 –> 00:24:48,040
We do it because it’s one of the cheapest options that we have.

320
00:24:48,040 –> 00:24:55,120
So if we’re going to move that production to Mexico or the U.S. or Canada or wherever,

321
00:24:55,120 –> 00:24:57,440
that’s going to increase the price.

322
00:24:57,440 –> 00:25:02,640
Just as an example, there’s a company called Purism that makes electronics.

323
00:25:02,640 –> 00:25:07,240
And one of those items that they make is called the Librem 5, which is a phone.

324
00:25:07,240 –> 00:25:16,880
At least as of July 30th, 2022, the internationally created version of the Librem 5 is $1,300,

325
00:25:16,880 –> 00:25:22,080
whereas the version that’s made here in the United States is $2,000.

326
00:25:22,080 –> 00:25:25,160
This is the cost of de-globalization.

327
00:25:25,160 –> 00:25:32,000
Now if you read the de-globalization section of this post on our website, we basically expressed

328
00:25:32,000 –> 00:25:36,600
that we didn’t think that this was going to have that big of an effect on inflation because

329
00:25:36,600 –> 00:25:40,920
let’s face it, you know, if you go to Target or Walmart or something and you’re going to

330
00:25:40,920 –> 00:25:44,560
buy a bicycle for little Johnny, you’re going to look at the price.

331
00:25:44,560 –> 00:25:49,080
You’re not going to care about where it was made or what supply chain was involved.

332
00:25:49,080 –> 00:25:50,800
You’re going to look at the price.

333
00:25:50,800 –> 00:25:57,280
So if you see bike A, which was made in China and is $300, or you look at the exact same

334
00:25:57,280 –> 00:26:03,320
bike that was made in Canada for $500, you know, which one are you going to buy?

335
00:26:03,320 –> 00:26:08,440
So from a market standpoint, we’re not really of the opinion that de-globalization is going

336
00:26:08,440 –> 00:26:11,840
to be a huge issue as far as inflation is concerned.

337
00:26:11,840 –> 00:26:15,960
But what we weren’t really thinking too much about, and we didn’t really express in our

338
00:26:15,960 –> 00:26:23,240
blog post, is that de-globalization might end up being a big deal, artificially, as a matter

339
00:26:23,240 –> 00:26:25,640
of government policy.

340
00:26:25,640 –> 00:26:29,320
What’s going on in the chips sector is a perfect example.

341
00:26:29,320 –> 00:26:35,760
As a consumer, you probably don’t care where your GPU or CPU comes from, but the government

342
00:26:35,760 –> 00:26:42,400
is pushing hard to move that production away from China and toward the United States.

343
00:26:42,400 –> 00:26:47,880
There are legitimate reasons for that, like national defense, for example, but it is possible

344
00:26:47,880 –> 00:26:53,560
that consumers will end up bearing the cost of this, whether they like it or not.

345
00:26:53,560 –> 00:26:56,600
And this issue may not be limited to chips.

346
00:26:56,600 –> 00:27:02,840
We expect to see tensions between East and West resulting in less efficient supply chains,

347
00:27:02,840 –> 00:27:08,320
more tariffs, and other inefficiencies that increase consumer prices.

348
00:27:08,320 –> 00:27:14,200
We’re going to talk briefly now about CBDCs, but like I said earlier, we may go over this

349
00:27:14,200 –> 00:27:17,120
in more detail in a future episode.

350
00:27:17,120 –> 00:27:23,400
There is a fair chance that we will have CBDCs imposed on us in the 2020s.

351
00:27:23,400 –> 00:27:29,160
We say “imposed” because it doesn’t seem like anyone outside of the governments and central

352
00:27:29,160 –> 00:27:31,520
banks actually want this.

353
00:27:31,520 –> 00:27:37,880
But from an inflation perspective, let’s just put our evil genius hats on and imagine what

354
00:27:37,880 –> 00:27:45,360
the government or central bank can do with the CBDC. 1. Enforce negative interest rates

355
00:27:45,360 –> 00:27:48,200
all the way down to the individual level.

356
00:27:48,200 –> 00:27:54,000
So right now, the Fed sets the federal funds rate, which is obviously very blunt because

357
00:27:54,000 –> 00:28:01,160
that affects basically the entire world. But with the CBDC, not only could they force people

358
00:28:01,160 –> 00:28:06,840
to accept negative interest rates in that they just programmatically take money out

359
00:28:06,840 –> 00:28:11,840
of your wallet on a regular basis, but they could do this at different rates for different

360
00:28:11,840 –> 00:28:13,000
people.

361
00:28:13,000 –> 00:28:19,560
The second thing that a CBDC could do is allow the central bank to create loans directly

362
00:28:19,560 –> 00:28:25,320
to increase broad money supply, rather than rely on lending by commercial banks.

363
00:28:25,320 –> 00:28:32,280
Normally, a large portion of newly-created money comes from commercial bank lending.

364
00:28:32,280 –> 00:28:38,840
However, when the economy starts to slow down, so does commercial lending, because commercial

365
00:28:38,840 –> 00:28:42,800
banks are bound somewhat by reality.

366
00:28:42,800 –> 00:28:46,760
They have a real profit and loss that they need to worry about, but the central bank

367
00:28:46,760 –> 00:28:47,760
does not.

368
00:28:47,760 –> 00:28:52,360
So they could create an infinite number of loans to anybody for any reason.

369
00:28:52,360 –> 00:28:56,520
“Oh, you want $100 trillion to go fight climate change?

370
00:28:56,520 –> 00:28:57,520
Sure, why not?

371
00:28:57,520 –> 00:28:59,120
I mean, this is all fake anyway.

372
00:28:59,120 –> 00:29:00,360
So why not?”

373
00:29:00,360 –> 00:29:06,200
The third thing that a CBDC would allow a central bank to do is force its holders to

374
00:29:06,200 –> 00:29:14,400
spend money and increase velocity by imposing automatic expiration dates on the money itself.

375
00:29:14,400 –> 00:29:20,160
So they could programmatically set rules like, “Hey, for every penny that goes into your

376
00:29:20,160 –> 00:29:25,720
wallet, you have to spend it within 30 days or 60 days or whatever, or else we’ll just

377
00:29:25,720 –> 00:29:27,000
take it from you.”

378
00:29:27,000 –> 00:29:29,480
That would also be inflationary.

379
00:29:29,480 –> 00:29:35,480
Another concern we have is that a CBDC would make it very easy for the government to spend

380
00:29:35,480 –> 00:29:43,480
massive amounts of money indirectly by mandating that the Fed use CBDCs to address basically any

381
00:29:43,480 –> 00:29:44,480
agenda.

382
00:29:44,480 –> 00:29:52,760
Universal basic income (UBI), climate change, inequality, racism, sexism, reparations, on and on.

383
00:29:52,760 –> 00:29:59,160
That might sound like a joke and we wish it was, but we already do hear the Fed talk about

384
00:29:59,160 –> 00:30:04,880
their role in addressing climate change despite the fact that their role has nothing to do

385
00:30:04,880 –> 00:30:06,600
with the climate.

386
00:30:06,600 –> 00:30:12,880
Now we’re not lawyers, but in fairness, as far as we know, the Federal Reserve Act prohibits

387
00:30:12,880 –> 00:30:18,680
the Fed from dealing directly with individuals, which makes a CBDC basically illegal in the

388
00:30:18,680 –> 00:30:19,880
United States.

389
00:30:19,880 –> 00:30:26,280
However, if you really sit down and think about how beneficial a CBDC would be to the

390
00:30:26,280 –> 00:30:31,560
Fed and the government, we don’t really see this as being that much of a roadblock.

391
00:30:31,560 –> 00:30:38,200
Let’s be honest, a CBDC is a central planner’s dream come true. So don’t count

392
00:30:38,200 –> 00:30:43,040
on a few words on a piece of paper to protect you from a CBDC.

393
00:30:43,040 –> 00:30:49,600
Alright, now it’s time to play devil’s advocate and talk about some deflationary pressures.

394
00:30:49,600 –> 00:30:53,960
The first being the effects of debt on growth and inflation.

395
00:30:53,960 –> 00:31:00,220
Dr. Lacy Hunt frequently points out that debt is “deleterious” to growth.

396
00:31:00,220 –> 00:31:06,160
He argues that our high levels of national debt and fiscal spending will be a deflationary

397
00:31:06,160 –> 00:31:08,520
drag on growth and inflation.

398
00:31:08,520 –> 00:31:11,480
And on paper, he’s correct.

399
00:31:11,480 –> 00:31:15,080
But again, the pertinent question is timing.

400
00:31:15,080 –> 00:31:21,280
At what point will our monetary and fiscal policies tighten sufficiently to enable structural

401
00:31:21,280 –> 00:31:22,280
deflation?

402
00:31:22,280 –> 00:31:27,480
We’re not sure, but if recent history is any indicator, we’ll kick that can down the

403
00:31:27,480 –> 00:31:29,760
road for as long as possible.

404
00:31:29,760 –> 00:31:35,200
One of the most important lessons that we’ve learned in macroeconomics is to not underestimate

405
00:31:35,200 –> 00:31:39,960
how long the government can keep an unsustainable system going.

406
00:31:39,960 –> 00:31:45,360
This reminds me of the old quote, “Markets can remain* irrational longer than you can remain*

407
00:31:45,360 –> 00:31:46,360
solvent.” (John Maynard Keynes)

408
00:31:46,360 –> 00:31:51,040
But yes, at some point, our debt will come back to haunt us.

409
00:31:51,040 –> 00:31:57,960
The question is how much longer can we keep inflating asset bubbles by QE and deficit

410
00:31:57,960 –> 00:31:58,960
spending?

411
00:31:58,960 –> 00:32:03,640
If we were any other country, we would say that we’re probably at the end of the road.

412
00:32:03,640 –> 00:32:08,960
But considering the dollar’s world reserve currency status, we think that the U.S. can

413
00:32:08,960 –> 00:32:13,480
and will keep kicking this can down the road for many years to come.

414
00:32:13,480 –> 00:32:18,680
The next time we enter a major recession, we fully expect interest rates to drop to

415
00:32:18,680 –> 00:32:22,840
zero and the government to ramp up deficit spending.

416
00:32:22,840 –> 00:32:28,600
It is possible that our politicians will come to their senses and refrain from doing this,

417
00:32:28,600 –> 00:32:34,400
in which case that would be highly deflationary, but we assign that a very low probability.

418
00:32:34,400 –> 00:32:40,960
However, it is something worth considering because of how sticky inflation has been.

419
00:32:40,960 –> 00:32:45,800
Another important consideration, which is something that investors need to keep a close

420
00:32:45,800 –> 00:32:49,720
eye on, is how government spending is financed.

421
00:32:49,720 –> 00:32:55,160
If the government borrows from Americans, this is technically deflationary.

422
00:32:55,160 –> 00:33:01,000
In this case, every dollar being spent into the economy had to be borrowed from the economy

423
00:33:01,000 –> 00:33:04,800
first, then interest would need to be paid on that.

424
00:33:04,800 –> 00:33:10,840
However, if Americans don’t want to buy government debt, then we expect the Federal Reserve to

425
00:33:10,840 –> 00:33:15,760
pick up the slack, in which case that would be very inflationary.

426
00:33:15,760 –> 00:33:20,320
So again, keep a close eye on that because it’s a very important distinction.

427
00:33:20,320 –> 00:33:24,880
It’s not enough to just look at how much the government is spending, but where is that

428
00:33:24,880 –> 00:33:26,680
money coming from?

429
00:33:26,680 –> 00:33:31,840
We’re very concerned about this because a lot of larger investors like foreigners and

430
00:33:31,840 –> 00:33:37,640
institutions have actually been net sellers of treasuries in recent years.

431
00:33:37,640 –> 00:33:43,040
The last time we checked, only retail investors were net buyers, which is actually pretty

432
00:33:43,040 –> 00:33:45,640
terrifying if you think about it.

433
00:33:45,640 –> 00:33:51,280
What if those retail investors stopped buying treasuries or they joined the selling party

434
00:33:51,280 –> 00:33:57,280
as well? Our only way out of that would either be for interest rates to go way up to attract

435
00:33:57,280 –> 00:34:00,920
new buyers or the Fed would have to step in.

436
00:34:00,920 –> 00:34:05,800
The second deflationary pressure that we’re going to talk about is the declining velocity

437
00:34:05,800 –> 00:34:07,240
of money.

438
00:34:07,240 –> 00:34:13,200
Jim Rickards regularly points to the consistent trends in declining money velocity as being

439
00:34:13,200 –> 00:34:18,080
deflationary, and this is correct. Because let’s face it, you could have all the money

440
00:34:18,080 –> 00:34:22,960
in the world, but if you’re not spending it, that can’t drive up prices.

441
00:34:22,960 –> 00:34:29,440
So as investors, we have to accept the risk that money velocity will continue to decline,

442
00:34:29,440 –> 00:34:33,920
or at least be anemic, and that’ll help keep a lid on inflation.

443
00:34:33,920 –> 00:34:40,800
However, just to play devil’s, devil’s advocate or devil’s advocate squared, the government

444
00:34:40,800 –> 00:34:43,560
knows how to increase velocity.

445
00:34:43,560 –> 00:34:49,000
So if we really go into a decline where low velocity is a major problem, what really is

446
00:34:49,000 –> 00:34:55,480
there to stop them from sending out stimmy checks, instituting UBI, forgiving student

447
00:34:55,480 –> 00:35:01,320
loan debt, or conjuring up some reason to start World War III and spend a bunch of money

448
00:35:01,320 –> 00:35:02,800
like there’s no tomorrow.

449
00:35:02,800 –> 00:35:08,120
All right, deflationary pressure #3: The reverse wealth effect.

450
00:35:08,120 –> 00:35:14,440
We’re exiting what Rick Rule describes as “40 years of benign economic conditions.”

451
00:35:14,440 –> 00:35:19,440
By this, he’s referring to the secular trend of declining interest rates in the United

452
00:35:19,440 –> 00:35:23,900
States from the 1980s until about 2022.

453
00:35:23,900 –> 00:35:31,040
When interest rates fall, especially from such high levels, you know, they reached like 20%

454
00:35:31,040 –> 00:35:34,280
in the 80s, then magical things happen.

455
00:35:34,280 –> 00:35:39,760
Stock prices rise, bond prices rise, home prices rise, and so on.

456
00:35:39,760 –> 00:35:44,360
This had a major wealth effect for many Americans for decades.

457
00:35:44,360 –> 00:35:50,000
However, after 40 years, we finally crashed into the zero bound.

458
00:35:50,000 –> 00:35:53,800
You can’t get much lower than 0% interest rates.

459
00:35:53,800 –> 00:35:58,800
Of course, there’s really not a whole lot stopping the delicate geniuses at the Fed

460
00:35:58,800 –> 00:36:03,520
from trying negative rates, but that’s not our base case as of now.

461
00:36:03,520 –> 00:36:10,200
So if falling interest rates are positive for asset prices, and higher asset prices provide

462
00:36:10,200 –> 00:36:15,360
a wealth effect, it stands to reason that we may need to bring interest rates back to

463
00:36:15,360 –> 00:36:21,740
reality, which would depress asset prices and likely reduce spending to some degree.

464
00:36:21,740 –> 00:36:24,120
That would be deflationary.

465
00:36:24,120 –> 00:36:28,960
For those who aren’t familiar with the wealth effect, this is essentially that people tend

466
00:36:28,960 –> 00:36:34,480
to spend more money when their assets are rising in value, which implies that they’ll

467
00:36:34,480 –> 00:36:39,960
likely spend less money when they see their assets falling in value.

468
00:36:39,960 –> 00:36:44,120
We emphasize this because this could actually be a big deal.

469
00:36:44,120 –> 00:36:47,800
The U.S. economy is highly financialized.

470
00:36:47,800 –> 00:36:52,640
So if something pricks this everything bubble that we’re in, this could trigger a doom

471
00:36:52,640 –> 00:36:59,400
loop, so to speak, where asset prices decline, which reduces spending, which causes assets

472
00:36:59,400 –> 00:37:02,720
to decline even further and so on.

473
00:37:02,720 –> 00:37:07,720
This is also a high risk because there are a lot of boomers entering retirement.

474
00:37:07,720 –> 00:37:12,320
If they start to get the impression that their assets may be in trouble, they could sell

475
00:37:12,320 –> 00:37:17,480
them en masse and trigger a deflationary bust.

476
00:37:17,480 –> 00:37:22,320
Deflationary pressure #4: Monetary and fiscal policy.

477
00:37:22,320 –> 00:37:27,440
Our base case is that monetary and fiscal policy will err on the side of inflation in

478
00:37:27,440 –> 00:37:28,440
the 2020s.

479
00:37:28,440 –> 00:37:36,240
However, we must accept the possibility that monetary and fiscal policy may be unexpectedly

480
00:37:36,240 –> 00:37:37,840
restrictive.

481
00:37:37,840 –> 00:37:43,840
For the first time in decades, politicians are starting to learn that there are real

482
00:37:43,840 –> 00:37:47,800
consequences to spending money like there’s no tomorrow.

483
00:37:47,800 –> 00:37:53,960
We saw this with the blockage of the first version of Build Back Better, and the politicians

484
00:37:53,960 –> 00:38:00,040
are now talking about making spending cuts as part of this debt ceiling debate.

485
00:38:00,040 –> 00:38:05,840
That is a positive development because we really need to get fiscal spending under control.

486
00:38:05,840 –> 00:38:10,800
If we don’t, we’re going to have a major, major inflation problem on our hands.

487
00:38:10,800 –> 00:38:15,600
But if we do get it under control, that would be somewhat deflationary.

488
00:38:15,600 –> 00:38:18,040
Now let’s talk about technology.

489
00:38:18,040 –> 00:38:23,360
Advancements in technology are usually deflationary because they make us more productive.

490
00:38:23,360 –> 00:38:28,120
We can get by with less, and therefore we can charge lower prices.

491
00:38:28,120 –> 00:38:33,520
If you listen to Cathie Wood and others, we’re not just going to single her out, but they

492
00:38:33,520 –> 00:38:41,560
talk an awful lot about EVs and other technology as being some huge deflationary threat.

493
00:38:41,560 –> 00:38:44,640
We’re not quite sure where they’re coming from on that.

494
00:38:44,640 –> 00:38:50,160
Ironically, a lot of the technology that they talk about, like Teslas for example, are

495
00:38:50,160 –> 00:38:53,840
actually quite expensive last time we checked.

496
00:38:53,840 –> 00:38:59,880
We don’t anticipate that technology will cause deflation in the 2020s, but acknowledge

497
00:38:59,880 –> 00:39:01,760
that it’s possible.

498
00:39:01,760 –> 00:39:07,120
Just think about how much purchasing power the dollar has lost since the invention of

499
00:39:07,120 –> 00:39:08,120
the internet.

500
00:39:08,120 –> 00:39:12,920
I don’t have the numbers in front of me, but I do remember life before the internet, and

501
00:39:12,920 –> 00:39:20,720
I remember things like $1 gas and people buying a week’s worth of groceries for about $25.

502
00:39:20,720 –> 00:39:25,720
But think about how much more productive the internet has made us.

503
00:39:25,720 –> 00:39:32,040
It’s difficult to believe that EVs, cryptos, and other technologies that are being developed

504
00:39:32,040 –> 00:39:38,200
today are going to surpass the deflationary effects that we experienced with the introduction

505
00:39:38,200 –> 00:39:43,320
of the internet, so we just don’t expect this to have a major influence.

506
00:39:43,320 –> 00:39:47,960
One should also consider how the CPI is calculated.

507
00:39:47,960 –> 00:39:54,560
About 40% of it is housing alone, which we don’t see being significantly impacted by

508
00:39:54,560 –> 00:39:58,520
EVs or other technology anytime soon.

509
00:39:58,520 –> 00:40:03,640
The last deflationary pressure we’re going to touch on is demand destruction.

510
00:40:03,640 –> 00:40:08,080
We’re actually starting to see this here in May of 2023.

511
00:40:08,080 –> 00:40:12,280
Consumers are starting to max out their credit cards and will probably start cutting back

512
00:40:12,280 –> 00:40:14,160
their spending soon.

513
00:40:14,160 –> 00:40:19,440
This will indeed provide some deflationary pressure, but it’s difficult to estimate how

514
00:40:19,440 –> 00:40:25,480
much of this will be offset by the supply side issues we discussed earlier, as well as reopening

515
00:40:25,480 –> 00:40:27,200
in China.

516
00:40:27,200 –> 00:40:30,680
Many of our expenses are actually relatively fixed.

517
00:40:30,680 –> 00:40:34,120
I mean, just think about the things that you spend your money on.

518
00:40:34,120 –> 00:40:38,600
If they started to go up quite a bit, how much can you really cut?

519
00:40:38,600 –> 00:40:44,240
I mean, you need to eat, you need to charge or put gas in your car, you need to heat your

520
00:40:44,240 –> 00:40:51,120
home, so you’re probably going to do whatever you have to to pay whatever those things cost.

521
00:40:51,120 –> 00:40:57,480
To that end, we like what we’ve heard others say, which is that you’ll probably see deflation

522
00:40:57,480 –> 00:41:02,840
in the things that you want, but inflation in the things that you need.

523
00:41:02,840 –> 00:41:08,320
So with all this talk of money printing and debt monetization and whatnot, this begs

524
00:41:08,320 –> 00:41:15,240
the question, could we, in the United States, actually experience hyperinflation?

525
00:41:15,240 –> 00:41:21,920
We do accept this as a possibility in the 2020s, but it’s definitely not our base case

526
00:41:21,920 –> 00:41:23,880
for a few reasons.

527
00:41:23,880 –> 00:41:29,560
For one, our debts are denominated in the US dollar, which we obviously have quite a

528
00:41:29,560 –> 00:41:31,320
bit of control over.

529
00:41:31,320 –> 00:41:36,920
The US dollar is the world’s primary reserve currency, which also helps us service our

530
00:41:36,920 –> 00:41:43,840
debts because foreigners are more willing to take our printed dollars than other currencies.

531
00:41:43,840 –> 00:41:49,480
And the third reason is, despite the US government’s reckless monetary and fiscal policies, much

532
00:41:49,480 –> 00:41:54,840
of the rest of the world continues to provide strong demand for the US dollar.

533
00:41:54,840 –> 00:42:00,600
There is a lot of chatter in the news and on Fintwit and whatnot about the world dumping

534
00:42:00,600 –> 00:42:05,480
the dollar, but we just don’t think that that’s going to happen in the 2020s.

535
00:42:05,480 –> 00:42:08,680
That’s something that’s going to take a long time to play out.

536
00:42:08,680 –> 00:42:14,840
However, we should mention that the United States dollar is not immune to hyperinflation.

537
00:42:14,840 –> 00:42:21,880
We cannot continue papering our problems over forever. At some point, and we don’t know when

538
00:42:21,880 –> 00:42:22,880
that will be,

539
00:42:22,880 –> 00:42:29,000
Gresham’s Law will kick in and US dollar holders will start dumping them to buy up tangible

540
00:42:29,000 –> 00:42:31,400
assets to protect their purchasing power.

541
00:42:31,400 –> 00:42:38,200
We’re not quite sure what would trigger that, or how close we are, but this is worth discussing

542
00:42:38,200 –> 00:42:43,560
given the staggering amounts of growth in M2 money supply that we’ve experienced since

543
00:42:43,560 –> 00:42:44,560
the GFC.

544
00:42:44,560 –> 00:42:51,040
It’s becoming clear that QE and 0% interest rates are not as effective as they used to

545
00:42:51,040 –> 00:42:52,040
be.

546
00:42:52,040 –> 00:42:56,160
So this begs the question, what happens when it no longer works?

547
00:42:56,160 –> 00:43:01,800
Will our politicians let the market sort things out, which would be deflationary?

548
00:43:01,800 –> 00:43:07,160
Or will they continue trying to inflate our troubles away, which would lead to hyperinflation?

549
00:43:07,160 –> 00:43:13,240
All right, so to start wrapping things up, let’s talk about what this all means.

550
00:43:13,240 –> 00:43:19,120
For average Americans, you need to start thinking about protecting your purchasing power.

551
00:43:19,120 –> 00:43:24,560
This is especially pertinent for those who are in or near retirement.

552
00:43:24,560 –> 00:43:31,440
We would like to reiterate that we believe that the 2020s will be inflationary in aggregate,

553
00:43:31,440 –> 00:43:36,480
but also that there will be significant volatility in the CPI.

554
00:43:36,480 –> 00:43:43,120
So during periods of inflation, we have five tips for you to consider to protect your purchasing

555
00:43:43,120 –> 00:43:44,120
power.

556
00:43:44,120 –> 00:43:48,640
Number one, keep your spending to a minimum and save some money.

557
00:43:48,640 –> 00:43:54,200
Not only will there be deals later on, but inflation can lead to job losses.

558
00:43:54,200 –> 00:43:57,760
So you’re going to want to make sure that you have some dry powder.

559
00:43:57,760 –> 00:44:04,080
The second is to keep your skills sharp so that you can negotiate with your employer.

560
00:44:04,080 –> 00:44:10,520
If your employer is unable or unwilling to adequately compensate you, start looking elsewhere.

561
00:44:10,520 –> 00:44:14,960
The third tip is to spend a little bit more time shopping around.

562
00:44:14,960 –> 00:44:20,200
Some restaurants and other businesses are really milking the whole price inflation thing,

563
00:44:20,200 –> 00:44:23,320
whereas others are being more reasonable about it.

564
00:44:23,320 –> 00:44:28,200
I hear a lot of people complaining about this, but if some business is ripping you off, just

565
00:44:28,200 –> 00:44:30,320
take your business elsewhere.

566
00:44:30,320 –> 00:44:35,800
The fourth tip is to invest some of your savings in inflation hedges, which we’ll talk about

567
00:44:35,800 –> 00:44:37,080
in a minute.

568
00:44:37,080 –> 00:44:42,840
And the final inflationary tip is that if you have low interest debt, consider making

569
00:44:42,840 –> 00:44:44,560
minimum payments.

570
00:44:44,560 –> 00:44:49,880
This allows inflation to erode some of your debt obligations away.

571
00:44:49,880 –> 00:44:56,400
You know, if inflation is 5%, for example, and your mortgage is 3%, it makes quite a

572
00:44:56,400 –> 00:44:59,520
bit of sense for you to make the minimum payments.

573
00:44:59,520 –> 00:45:05,040
When we go through disinflationary or deflationary periods, which it kind of feels like we’re

574
00:45:05,040 –> 00:45:08,680
in right now, we have some tips for you as well.

575
00:45:08,680 –> 00:45:13,280
If interest rates decline, consider refinancing your mortgage.

576
00:45:13,280 –> 00:45:18,680
You can do this to either lock in a lower interest rate or to extract some equity to

577
00:45:18,680 –> 00:45:22,560
pay off higher-interest debt like credit card debt.

578
00:45:22,560 –> 00:45:28,960
The other deflationary tip is to take advantage of lower prices when you can, but don’t overdo

579
00:45:28,960 –> 00:45:29,960
it.

580
00:45:29,960 –> 00:45:35,720
As the economy starts to roll over, we will see some discounted items like refrigerators

581
00:45:35,720 –> 00:45:37,800
or shoes or something like that.

582
00:45:37,800 –> 00:45:41,120
So take advantage of that when it makes sense.

583
00:45:41,120 –> 00:45:46,840
But in general, whether we’re in an inflationary period or deflationary period, we have two

584
00:45:46,840 –> 00:45:49,760
recommendations for consumers.

585
00:45:49,760 –> 00:45:55,960
One is to strengthen your balance sheet, and more specifically, keep consumer and discretionary

586
00:45:55,960 –> 00:45:57,680
debt to a minimum.

587
00:45:57,680 –> 00:46:03,840
We expect the 2020s to be a rough decade for many Americans, particularly those of lower

588
00:46:03,840 –> 00:46:06,320
income and assets.

589
00:46:06,320 –> 00:46:11,600
Maintaining a strong balance sheet will provide a cushion if things turn against you, as well

590
00:46:11,600 –> 00:46:17,200
as provide the ability to capitalize on the opportunities that this presents.

591
00:46:17,200 –> 00:46:22,920
We also think it’s a good idea to maintain a significant stock of everyday necessities

592
00:46:22,920 –> 00:46:26,160
like toilet paper and toothpaste and so on.

593
00:46:26,160 –> 00:46:30,840
In addition to saving time and energy by reducing the number of trips you have to make to the

594
00:46:30,840 –> 00:46:37,120
store, this can also help you during periods of price hikes or supply shortages.

595
00:46:37,120 –> 00:46:40,880
Now we’re going to talk about a few tips for investors.

596
00:46:40,880 –> 00:46:47,320
Given that we expect inflation to be volatile, it would be prudent for investors to monitor

597
00:46:47,320 –> 00:46:50,880
economic conditions and remain flexible.

598
00:46:50,880 –> 00:46:57,280
Overall we expect traditional inflation hedges to perform fairly well in this decade, which

599
00:46:57,280 –> 00:47:01,800
may include energy like oil, gas and coal.

600
00:47:01,800 –> 00:47:07,640
Nuclear fuels will probably also do well. But if they do, we expect that to be less

601
00:47:07,640 –> 00:47:14,280
about inflation and more to do with other factors like reactor restarts for example.

602
00:47:14,280 –> 00:47:19,480
Some other hedges may include real estate, although you might want to be careful about

603
00:47:19,480 –> 00:47:25,240
office buildings and shopping malls and things like that, but also consider agricultural

604
00:47:25,240 –> 00:47:31,880
commodities, precious metals, and particularly gold, and potentially other metals.

605
00:47:31,880 –> 00:47:37,480
Now that can get a little bit tricky because certain metals like copper and steel are

606
00:47:37,480 –> 00:47:44,960
very cyclical. So if inflation causes enough demand destruction, there may be relatively

607
00:47:44,960 –> 00:47:50,840
weak demand, although that might be counteracted by our energy transition.

608
00:47:50,840 –> 00:47:55,160
So as far as metals are concerned, we’re a little bit more interested in precious metals

609
00:47:55,160 –> 00:48:01,960
at the moment because we do have some concerns about demand for more industrial metals.

610
00:48:01,960 –> 00:48:05,200
Now what about stocks, you might be thinking?

611
00:48:05,200 –> 00:48:10,400
It’s often suggested that stocks are good inflation hedges, but this isn’t necessarily

612
00:48:10,400 –> 00:48:11,400
the case.

613
00:48:11,400 –> 00:48:18,680
Now if we look at the 1970s for example, the S&P 500 did produce nominal gains, but real

614
00:48:18,680 –> 00:48:21,600
losses when you adjust for inflation.

615
00:48:21,600 –> 00:48:26,800
This must have been very painful for stock investors because not only did they have losses

616
00:48:26,800 –> 00:48:32,680
in real terms, but then they had to pay capital gains taxes on that phantom capital gains

617
00:48:32,680 –> 00:48:35,280
income that they had during this time.

618
00:48:35,280 –> 00:48:40,680
But how inflation affects earnings is actually a little bit complicated.

619
00:48:40,680 –> 00:48:46,000
Investors should be cautious of stocks in an inflationary environment and be pickier

620
00:48:46,000 –> 00:48:51,360
about which stocks they invest in, because some companies just won’t be able to pass higher

621
00:48:51,360 –> 00:48:53,720
costs on to consumers.

622
00:48:53,720 –> 00:48:58,840
But like I said, investors need to be flexible, period.

623
00:48:58,840 –> 00:49:04,800
So for example, even though we’re expecting inflation throughout this decade, my personal

624
00:49:04,800 –> 00:49:11,480
portfolio as of the time of this recording actually has a deflationary bias to it. And that’s

625
00:49:11,480 –> 00:49:17,120
because the economy is slowing down and we expect the Federal Reserve to drop interest

626
00:49:17,120 –> 00:49:23,120
rates dramatically to prevent a deflationary bust in the not too distant future.

627
00:49:23,120 –> 00:49:30,280
When that happens, we expect bonds, especially long treasury bonds to rally, and stocks will

628
00:49:30,280 –> 00:49:32,600
probably fall quite a bit.

629
00:49:32,600 –> 00:49:38,560
At that point, I’ll probably be looking to sell those bonds and buy riskier assets because

630
00:49:38,560 –> 00:49:44,520
we have a strong feeling that we’re going to react to this slowing economy by injecting

631
00:49:44,520 –> 00:49:48,480
trillions of dollars back into it just like we did in the GFC.

632
00:49:48,480 –> 00:49:55,000
All right, that’s it for this episode, we want to repeat that although we are in a disinflationary

633
00:49:55,000 –> 00:50:01,040
period right now, we expect the 2020s to be inflationary and aggregate.

634
00:50:01,040 –> 00:50:06,600
As always, nothing in our podcast should be construed as financial, investment, or other

635
00:50:06,600 –> 00:50:10,560
advice, but we hope that you found this episode to be helpful.

636
00:50:10,560 –> 00:50:16,160
We provide one-on-one consulting services to clients like you to help them achieve their

637
00:50:16,160 –> 00:50:17,660
financial goals.

638
00:50:17,660 –> 00:50:22,200
If you’re interested, go to our website, BiggerInsights.com, and fill out the short

639
00:50:22,200 –> 00:50:26,440
form at the bottom of the page so we can schedule your initial consultation.

640
00:50:26,440 –> 00:50:30,360
Otherwise, make sure you subscribe and share this podcast.

641
00:50:30,360 –> 00:50:32,400
Thanks for staying until the end.

642
00:50:32,400 –> 00:51:02,240
Go protect your purchasing power and have a great rest of your day.

Blog

Caveats

Before we get into the weeds, we would like to ground everyone with a few caveats:

  1. This post is heavily focused on the US, but will probably also apply rather well to other western countries
  2. As of August 1, 2022, we’re currently in a bear market and we expect this to be a cyclical, disinflationary period
  3. We expect the 2020s to experience several cyclical disinflationary periods, possibly even deflationary. However, we maintain that the 2020s decade will be inflationary in aggregate.

Defining Inflation, Disinflation, and Deflation

One of the great disappointments of modern economics is we spend too much time quibbling over semantics. We’ve studied countless hours of debates regarding whether we’re going to have inflation or deflation. Rather than address the true intention of the debate, experts argue about about the definition of inflation. We’ve listened to Lacy Hunt, Jim Rickards, Lyn Alden, Cathie Wood, Harry Dent, Peter Schiff, Ray Dalio, Warren Buffett, Rick Rule, Jim Rogers, et al. extensively. Our conclusion: they’re all generally right. The differences in their arguments boil down to semantics and timing.

The purest definition of inflation is the increase in the broad supply of money and credit. This definition makes many (e.g. Jim Rickards) uncomfortable because an increase in the money supply doesn’t necessarily result in an increase in prices (i.e. CPI). This is certainly true, but at this point, we’re arguing semantics. This issue is so frustrating that we wish we could just get rid of the words inflation and deflation. When we discuss inflation with clients, we first clarify what we’re talking about. If we’re talking about CPI, let’s talk about CPI. If we’re talking about money supply, let’s talk about money supply.

For the purposes of this post, we’re going to refer to inflation as the degradation of the purchasing power of the US dollar within the US. This is irrespective of what the or your definition of inflation is. If you’re offended, from now on, when we say “inflation”, insert whatever alternative word you wish (e.g. banana). In terms of the 2020s being “inflationary”, we mean that you will lose purchasing power at a significantly faster rate, in aggregate, than the Fed’s target rate of 2%.

Let’s also distinguish “purchasing power” from the dollar index (DXY). We define purchasing power in terms of what goods and services Americans can buy with USD, not in terms of DXY. The importance of this is perfectly evident today, August 1, 2022. Although the DXY is high, the USD buys much less than it did just a few years ago.

Along these lines, when we say “disinflation”, this means a slowing rate of inflation. When we say deflation, this will mean a negative rate of inflation, meaning a rise in the purchasing power of the USD.

Stimulus Check - Economic Impact Payment - Fiscal Policy - Universal Basic Income - UBI - Inflation

Inflationary Pressures

Mountains of Debt

Non-productive debt is a drag on your purchasing power. If you’ve ever found yourself struggling with credit card, student loan, auto, or mortgage debt, you know how this feels. However, this is because you don’t have a printing press. Interestingly, many notable economists point to the staggering levels of private and public debt as evidence that we have a deflation problem. These are the “inflation is transitory” crowd of 2020 and 2021. In the real world, we would agree with this. However, we don’t live in the real world because we (the US) have a printing press.

The history of over-indebted nations is clear: they almost always print their way out. When a government has too much debt, there are two primary ways of addressing this:

  1. The honest way: Default in nominal terms (i.e. underpay or don’t pay at all)
  2. The dishonest way: Default in real terms by printing money and paying your debts in devalued currency

History also shows that the US is no stranger to this phenomenon. In fact, we had similar levels of debt, as a percentage of GDP, in the 1940s. How did we bring this debt down to more manageable levels? Of course, we did this by devaluing the USD. Why would this time be any different?

To make matters worse, we don’t just have high levels of government debt. We also have high levels of corporate and personal debt. If interest rates were allowed to rise to free market levels, this would all but bankrupt the government, many corporations, and a large portion of the US population. We just don’t see that happening. Inflating our collective debts away is much more likely.

To this point, we should mention that mountains of debt may eventually result in deflation. This would happen when the global economy refuses to allow us to print our way out. However, we don’t see that as a likely scenario in the 2020s.

Monetary & Fiscal Policy

How Did We Get into This Mess?

Monetary and fiscal policy are large contributors to inflation. Let’s first discuss why inflation is so high at the present time. Although there are many factors, we believe these to be the largest:

  1. Increasing Aggregate Demand
    1. Fiscal response: Stimulus checks, PPP loans, mortgage forbearance, rent moratoriums, expanded unemployment and child tax credits, etc.
    2. Monetary response: Monetizing fiscal spending, recklessly-accommodative policy, being behind the curve due to the false belief that inflation was “transitory”
  2. Reducing Supply
    1. Government response: Lockdowns and other restrictions and mandates (in the US and globally)

When you increase aggregate demand, and simultaneously reduce the supply of goods and services, you get inflation. Yet, all of the PhDs in Washington didn’t understand or anticipate this. Bear in mind that we increased M2 money supply by ~40% during this time, yet the experts still believed inflation would be transitory.

This Isn't Over

However, this story isn’t over. We expect to see further monetary and fiscal responses that will add fuel to this inflationary fire. It’s only a matter of time until we see a Fed pivot or new deficit-spending bill(s). We would go so far as to say we may see:

  1. More lockdowns due to either a new disease or variant of COVID-19
  2. Some form of Universal Basic Income (UBI)
  3. The introduction of a central bank digital currency (CBDC) or other inflationary monetary regime shift

What we do not see is our overlords in Washington coming to their senses and being responsible with the nation’s finances. Our only hope, in this regard, is that we experience political gridlock that delays such actions.

Cui Bono?

“Cui Bono?” is a Latin phrase meaning, “to whom is it a benefit?” Let’s be honest – the federal government has a large degree of control over inflation, at least on the demand side. If we try to predict whether it will choose inflation or deflation, it’s helpful to ask, “Cui bono?” Inflation is most beneficial to debtors, at the expense of creditors. This is doubly true for debtors who can further their interests by buying votes with inflation.

The federal government benefits tremendously from inflation for the following reasons:

  1. It can buy votes with money it doesn’t have by debasing the currency
  2. Capital gains taxes increase because assets are artificially inflated. Note that capital gains are calculated in nominal terms.
  3. The progressive tax system robs income earners in an inflationary environment by artificially pushing them into higher tax brackets*
  4. Artificial increases in nominal wages push taxpayers out of deductions and credits they may have otherwise received*
  5. Inflation erodes the value of the government’s obligations (i.e. your benefits)* 

*These go hand-in-hand with manipulating the CPI to understate inflation. For benefits and tax policies that index to CPI, these will tilt in the government’s favor over time. We already see that the median Social Security check won’t even cover median rent. If this continues, today’s youth may receive Social Security checks that will only cover a meal at McDonald’s when they retire.

It is for this reason alone that one should generally expect inflation over the long term. Think about it this way: If you could issue and borrow in your own currency, why would you not borrow massive amounts and pay your debts with printed money? Perhaps because you have a moral compass, but our policymakers obviously do not.

Geopolitical Tensions

Despite the fact that inflation was a major problem before the invasion of Ukraine, Biden refers to this as “Putin’s Price Hike.” There’s no doubt that the conflict is contributing to inflation, but this is but a small piece of a larger puzzle.

The war in Ukraine is enduring longer than many anticipated and we don’t see any reason why this would end soon. US-China relations are as broken as our supply chains. The US is all but begging for war with Russia by supplying funding and weapons to Ukraine. Russia is weaponizing energy and commodities against Europe and others in the west. The US has weaponized the dollar, prompting many to seek to replace the dollar should be the world’s reserve currency. Russian sanctions are fracturing the world into east vs. west and strengthening alliances between our rivals. There is much concern that China will invade Taiwan.

We could go on and on. But the point is that geopolitical tensions are on the rise. Said tensions are all but guaranteed to result in reduced trade, higher tariffs, supply shortages, and potentially escalating war. This is inflationary.

Commodity Shortages

The commodities sector is highly cyclical. If we focus on supply, we normally see cycles in which high prices cause a boom in production. This boom in production leads to oversupply, which causes a bust period of low prices. In the 2010s decade, consumers were blessed with low commodity prices due to an oversupply from prior years. This kept inflation at bay, but it also led to years of underinvestment in commodity production. This is painfully-obvious in the oil markets. Most oil producers are operating near maximum capacity, yet we struggle to get enough product to the market to cool off prices.

Ordinarily, the cure for high commodity prices is high commodity prices. This means that high prices stimulate production and investment, which lowers prices by adding supply to the market. However, these are not ordinary circumstances. Global political pressures, particularly regarding climate change, are making it increasingly difficult to produce commodities. This isn’t just about oil and gas, this is all commodities. We’re seeing increasing hostility toward mining and even farming in the name of climate change. Bear in mind that we can’t have solar panels, windmills, and Teslas without mining. Not to mention, mining equipment is powered by that pesky oil. We don’t anticipate this trend reversing in any material way, at least in the west, no matter how high commodity prices go.

For these reasons, we expect commodities to be more expensive in the 2020s. Commodity prices feed into the prices of nearly all goods and services, so this will add significant inflationary pressure.

Supply Chain Disruptions

Government-induced lockdowns during the COVID-19 pandemic demonstrated how fragile our global supply chains are. First, it was “two weeks to flatten the curve.” Then, it was “until we have the vaccines.” Years later, there are still COVID-related interruptions in various parts of the world, particularly China. We’re not going to debate the efficacy of lockdowns from a health standpoint. However, one thing is clear: they hinder supply chain efficiency, which raises prices.

A global economy, and the supply chains within it, cannot be turned off and on like a light switch. Many businesses, which took years or decades to build, were destroyed in this process. In addition to geopolitical tensions and commodity issues described above, we expect the damage from these interruptions to take several years to resolve.

De-globalization

If you follow the financial media, you’ll hear much discussion of “de-globalization”, “onshoring”, “reshoring”, “nearshoring”, and “friend-shoring”. These are fancy terms for bringing production to home or closer to home. One of the reasons why prices have been so low over the past several years is the proliferation of globalization. Globalization is the process of globally distributing your supply chain for maximum efficiency, resulting in lowest price. Of course, if this process reverses, this would necessarily mean higher prices for consumers on a relative basis.

Just for fun, take this example (as of July 30, 2022). The Purism Librem 5, which is made internationally, retails at a base price of $1,299. The USA version, which is made in USA, retails for $1,999. This is the cost of de-globalization.

However, we don’t get too excited about this. Beyond specific products in which the government takes a specific interest (e.g. semiconductors), we don’t anticipate a sustained inflationary response due to de-globalization. The reason for this is because of why we globalized in the first place. When the average consumer compares two nearly-identical products, they look at the price, not the supply chain behind it. If you compared two similar bicycles, a Canadian one for $500 and a China-made one for $300, which would you buy? Would you be thinking, “I better buy the Canadian one because this stimulates the maintenance of a more robust supply chain in the event of future disruptions due to pandemics and other issues.”? We think not. To the extent that we see broad de-globalization, we largely expect consumers to vote with their dollars and reverse this process.

CBDC: Central Bank Digital Currency

We’ll go into more detail in another post, but we should mention that there is a nonzero risk that we’ll be cursed by a CBDC in the 2020s. Despite their rhetoric, central banks around the world, including the Federal Reserve, want CBDCs. A CBDC will provide the Fed with monetary tools they could only ever dream of:

  1. Forcing negative interest rates all the way down to the individual level
  2. Creating loans directly to increase broad money supply (i.e. rather than rely on commercial banks)
  3. Forcing CBDC holders to spend by imposing expiration dates on the money itself
  4. Conducting instantaneous, global on or off-balance-sheet operations with little or no oversight
  5. Crediting or seizing anyone’s account
  6. Addressing woke agendas like climate change and gender dynamics, somehow, by doling out CBDC
  7. etc.

Of course, the efficacy of these tools would heavily depend on whether Americans could opt out of this Orwellian system, particularly with cash. If we implement a CBDC in the US, Americans should be mindful that the removal of cash from the money supply could follow.

It’s difficult to estimate the probability that we’ll have a CBDC imposed on us in the 2020s. However, one thing that is clear is that if/when this happens, the results will be inflationary. Why? Because central banks are great at devaluing currency, not so much at protecting it. The only thing slowing central banks from inflating currencies into oblivion are artificial and technical limitations. With the introduction of a CBDC, and likely legal changes, these limitations will vanish as quickly as our purchasing power.

Deflation - Deflate - Falling Prices - Rising Purchasing Power - Deflated Balloon

Devil's Advocate: Deflationary Pressures

Effects of Debt on Growth & Inflation

Dr. Lacy Hunt frequently points out that debt is “deleterious” to growth. He seems convinced that our high levels of national debt and fiscal spending will be a deflationary drag on growth and inflation. On paper, he is correct. But as alluded to earlier, there is also the question of timing. At what point will our monetary and fiscal policies tighten sufficiently to enable structural deflation? We’re not sure, but if recent history is any indicator, we’ll kick that can down the road for as long as possible.

One of the most important lessons we’ve learned in macroeconomics is that one shouldn’t underestimate how long the government can keep an unsustainable system going. This is orders of magnitude more pertinent in our case because the dollar’s reserve currency status affords us much more rope with which to hang ourselves than other nations. We do agree that our national debt will be a drag on growth at some point, but that may be decades away. Until then, we see policymaker conversations behind closed doors going something like the following. “Growth is slowing, what should we do?”, says bureaucrat A. “Oh, I don’t know. Maybe a $15-20 trillion spending package. We’ll say it’s for ‘infrastructure’ and ‘climate change’ or something.”, says Bureaucrat B.

Another important consideration is how government spending is financed. If the government borrows from Americans, this is technically deflationary. In this case, every dollar being spent into the economy had to be borrowed from the economy first. Then, interest would need to be paid on that. If policymakers find themselves in a situation where “we” (meaning “they”) “need” more inflation, they’ll get it by having the Fed monetize new spending. This would be inflationary, as we’re experiencing this now. Where do you think all of that stimmy, PPP, and other money came from? It wasn’t from grandma’s nest egg. We expect Fed monetization of federal deficit spending to increase in the coming years.

Declining Velocity of Money

Jim Rickards regularly points to consistent trends in declining money velocity being deflationary. This is correct in that declining velocity is deflationary. For example, if the government gave us a check for $10 trillion, but we left that money in the bank (i.e. 0 velocity), this would have no impact on inflation as we’ve defined it. This also assumes the bank doesn’t lend out our $10 trillion.

We could, for one reason or another, see further declines in velocity. The key variable here is whom receives new money. As mentioned earlier, if the government wants more inflation, they’ll get it. In light of a velocity concern, this could be achieved by:

  1. More stimulus checks
  2. Universal Basic Income (UBI)
  3. Student loan forgiveness
  4. etc.

American consumers have been spending a lot of money since 2020. The government sending people checks will do that. This discovery is not lost on our policymakers, and we expect them to make use of this again in the future.

Reverse Wealth Effect

We’re exiting what Rick Rule describes as 40 years of benign economic conditions. By this, he’s referring to the secular trend of declining US interest rates from the 1980s until 2022. When interest rates fall, especially from such high levels (~20%), magical things happen:

  1. Stock prices rise because the cost of capital and discount rates fall
  2. Bond prices rise
  3. Home prices rise because mortgage rates fall

This 40-year period of benign economic conditions is highly unusual. It stands to reason that, as economies always do eventually, we will experience somewhat of a reversion to mean. Why does this stand to reason? Well, quite simply, we’ve hit the zero bound. If declining interest rates is a panacea, what happens when rates hit zero? If we don’t take rates negative, and declining rates were positive for valuations, shouldn’t rising interest rates be negative?

We must stress that the US is highly financialized. In other words, Americans’ purchasing power is highly dependent on asset valuations. If inflation remains stubborn for an extended period, interest rates may be higher for longer than anticipated. This would do the following, which would add downward pressure to the prices of goods and services:

  1. Reverse wealth effect: When Americans see their assets decline significantly, they will likely spend less money
  2. Higher interest rates would further decrease spending by encouraging saving

Monetary & Fiscal Policy

Our base case is that monetary and fiscal policy will err on the side of inflation in the 2020s. However, we must accept the possibility that said policies will be unexpectedly restrictive. For the first time in decades, politicians are learning once again that there are consequences to spending money like there’s no tomorrow.

We have seen some restraint on new spending with the blockage of the first version of Build Back Better. Hopefully, we’ll see more of this. We believe that policymakers will only constrain their reckless spending to the extent that voters hold them accountable in the polls.

Technology

Advancements in technology are usually deflationary because they make us more productive. A recent example of this is video conference and cloud services enabling Work From Home. Think about how time and expense can be saved by working and collaborating remotely. To this point, one can also see that it’s much easier than it has ever been to reduce labor expenses via outsourcing. We expect to see companies hiring more international employees for this reason.

However, technology and innovation can only do so much to counteract this dizzying array of inflationary pressures. We’re all impressed with those shiny Teslas, pricey Peloton bikes, and the endless number of crypto projects. But at the end of the day, our shelter, food, and energy needs are difficult to innovate away.

If we were in the early years of a technological innovation as significant as the internet, we would take this deflationary threat more seriously. But no – we don’t believe electric vehicles, cryptocurrencies, the metaverse, and other buzz words are going to have nearly as much of an impact on your purchasing power as many believe. In fact, many of today’s “innovations” are actually quite expensive.

Demand Destruction

You can’t watch 5 minutes of Bloomberg without hearing “demand destruction.” Demand destruction is hot on every investor’s mind because the high prices we’re experiencing should result in declining demand. This would bring down the CPI and corporate earnings, which may usher in a recession. This makes sense, but there are some flies in this ointment:

  1. Supply side issues described above. Bear in mind that prices can rise even as demand falls if supply falls even faster.
  2. If/when China ends its zero-COVID policies, this would add significant demand for commodities, inflating consumer prices worldwide

We couldn’t tell you which of these cross-currents will overpower the others. But it’s important to note that, at least for some prices, the issue may not be as straightforward as their high prices today leading to low prices tomorrow.

Inflation - Hyperinflation - Loss of Purchasing Power - Rising Prices - CPI - Money Printing - Reckless Monetary and Fiscal Policies - Zimbabwe

Could We Experience Hyperinflation?

Not Our Base Case

Fears of hyperinflation in the US dollar have been circulating for many years, albeit not taken very seriously. Now that we’re experiencing CPI prints not seen in over 40 years, the prospect of hyperinflation is gaining renewed interest.

Hyperinflation of the USD is a possibility in the 2020s, but not our base case. If we study history, we usually see such devaluation when a government has large budget deficits and large expenses denominated in foreign currency. Although austerity could be employed, this issue is almost always addressed by printing large amounts of local currency. This devalues the currency. When holders of the local currency see the writing on the wall, they dump the currency for anything considered more stable.

The US certainly has its budget deficit problems, and large expenses, but is rather well insulated from hyperinflation because:

  1. US debts are in USD, which the US has significant control over*
  2. USD is the world’s primary reserve currency
  3. Despite the US government’s reckless monetary and fiscal policies, much of the rest of the world continues to provide strong demand for USD

*The USD is also subject to market forces, in addition to a staggeringly-large Eurodollar system

USD Isn't Immune to Hyperinflation

However, this isn’t to say the USD is immune to hyperinflation.

Policymakers spend as much time talking about inflation as they do inflation expectations. Inflation has a tendency to perpetuate itself for a number of reasons, one of which is public perception. If USD holders perceive weakness in the dollar, and expect it to continue for an extended period, this can cause inflation to spiral out of control. This is reminiscent of Gresham’s Law, stating that bad money drives out good money. In such an event, people will exchange their USD for goods, commodities, real estate, foreign currencies, and anything else they can in attempt to protect their purchasing power.

The pertinent question is, what would cause USD inflation expectations to spiral out of control? Here are a few catalysts that could cause hyperinflation:

  1. The USD suddenly loses its world reserve currency status
  2. The Fed pivots and lets inflation rage out of control. This isn’t out of the realm of possibility. We may find that interest rates need to be so high to tame inflation that policymakers decide the damage from those interest rates would be greater than that caused by inflation.
  3. The federal government finds new excuses to greatly increase deficit spending, monetized by the Fed, in a short period of time. There are several contenders on this list:
    1. Climate change
    2. A new war
    3. A new or worsening pandemic
    4. Universal Basic Income (UBI)

What This Means

For Average Americans

Average Americans need to be thinking about protecting their purchasing power. This is especially true for those in or near retirement. We’d like to reiterate that we believe the 2020s will be inflationary in aggregate, but also that there will be significant volatility.

During periods of inflation, but not hyperinflation:

  1. Keep your spending to a minimum and save some money. Not only will there be deals later on, but inflation can lead to job losses, so you’re going to want some dry powder.
  2. Keep up-to-date with your market value to help with compensation negotiations. If your employer is unable or unwilling to adequately compensate you, look elsewhere.
  3. Spend a little more time shopping around. For example, if restaurant A is giving you a small amount of food for an outrageous price, check restaurant B. If restaurant B gives you a much better deal, tell restaurant A to pound salt.
  4. Invest some of your savings in inflation hedges (see below)
  5. If you have low-interest debt, consider making minimum payments. This allows inflation to erode some of your debt obligations away.
During periods of disinflation or deflation:
  1. If interest rates decline, consider refinancing your mortgage. This can be effective by locking in a lower rate, which will come in handy later on. This can also be used to extract some equity to pay off high-interest debt (e.g. credit card).
  2. Take advantage of lower prices, but don’t overdo it. Bear in mind that another inflationary impulse may be around the corner.

In general, we also recommend that consumers:

  1. Strengthen their balance sheet (e.g. keep consumer debt to a minimum). We expect the 2020s to be a rough decade for many Americans, particularly those of lower income and assets. Maintaining a strong balance sheet will provide a cushion of things go wrong as well as the ability to capitalize on opportunities.
  2. Maintain a significant stock of everyday necessities (toilet paper, toothpaste, etc.). In addition to saving time and energy by reducing trips to the store, this can also help you during price hikes or supply shortages.

For Investors

Given that we expect inflation to be volatile, it would be prudent for investors to monitor economic conditions and remain flexible. Overall, we expect traditional inflation hedges to perform fairly well in this decade. Such hedges may include:

  1. Energy: Oil, gas, and coal. Nuclear fuels will probably do well, but that would perhaps be less about inflation and more about other factors (e.g. reactor restarts).
  2. Real estate
  3. Agricultural commodities
  4. Precious metals (particularly gold)
  5. Potentially other metals. This is tricky because certain metals (e.g. copper, steel) are rather cyclical. If inflation causes enough economic destruction, there may be relatively weak demand. However, this may be counteracted by the energy transition.

It’s often suggested that stocks are inflation hedges, but this isn’t necessarily the case. In the 1970s, for example, the S&P 500 produced nominal gains, but real losses. To add salt to investors’ wounds, they then had to pay taxes on any phantom “gains” during this time. How inflation affects earnings is actually quite complicated. Investors should be cautious of stocks in an inflationary environment and be pickier about which stocks they invest in.

We say that investors need to remain flexible because we anticipate that we’ll experience cyclical periods of disinflation. As of August 1, 2022, it certainly feels like we’re in such a period. For this reason, we’ve been slowly trimming some of our stock and inflation hedges in favor of some cash and treasury bonds.

Final Thoughts

Inflation is a tricky subject. As Americans, if we look at it in terms of purchasing power within the US, there’s much evidence that suggests the USD will lose significant purchasing power over the course of the 2020s. In this type of environment, it pays to be informed and proactive.

If you’d like our assistance in navigating these challenging financial waters, fill out the form at the bottom of the page to schedule your free initial consultation.

Disclaimer

Nothing in this episode should be construed as tax, financial, or other advice. Investing involves significant risk, which may not be appropriate for your situation. Consult your financial advisor before making any investments. See our full Disclaimer for details.

Support Us

We’re an ethical company that puts our community first. You won’t find us injecting targeted ads or trackers into our website, peddling sketchy products/services, or selling our visitors’ data to 3rd-parties. As a result, our visibility and resources are rather limited.

Please consider supporting us to help keep our mission going. There are several ways to make a difference – from cryptocurrency contributions to simply sharing our content. Every bit of support is greatly appreciated and helps us make the world a more private, secure, and prosperous place.

More Great Content

  • All
  • Finance
  • Privacy & Security
  • Technology
Finance - Budgeting - Financial Planning - Accounting - Asset Allocation - Taxable and Tax-favored Accounts - Cash Finance

Asset Location: Taxable vs. Tax-favored Accounts (401k, IRA, HSA)

Asset Location (AKA Asset Placement) is a strategy for organizing your assets in an optimal way that helps you meet your financial goals. In the previous episode, we focused on asset location strategies for reducing taxes and simplifying your tax return. In this episode, we focus on asset location considerations ...
Continue →
Security - Software - Email - Computer Screen Privacy & Security

Email is Insecure – Here’s How to Improve Email Security

Email was never designed to be private or secure, so not surprisingly, it is neither private, nor secure. In the previous episode, we explained the reasons why as well as the risks inherent to email. However, email is so prevalent that it is unfortunately a necessary evil. In this episode, ...
Continue →
Planning - Concepting - Whiteboard - Tax Planning Tips - Asset Location - Asset Placement Finance

Asset Location: Reducing Taxes & Simplifying Your Tax Return

Asset Location (AKA Asset Placement) is a strategy for organizing your assets in such a way as to reduce tax burden, simplify your tax return, and manage risk. We discuss our Asset Location strategies, which includes specifics about tax treatment for growth stocks, dividend stocks, taxable bonds, real estate investment ...
Continue →
Drake - Bad Choice-Good Choice - Linux vs Windows macOS ChromeOS Technology

Linux Doesn’t Suck – Here’s Why Even Normies Should Use It

Linux has long been viewed as a science fair project for nerds. We explain why Linux doesn’t suck and why it's now usable even for normies. Some of the items discussed: Issues with Windows, ease of use, performance (efficient use of resources), hardware support, application support, OS licensing, concerns about ...
Continue →
Email - Mobile Phone - Privacy and Security - Technology - Hands Privacy & Security

Email is Insecure – Stop Using it for Sensitive Communications

Email is the primary means of sending messages and documents for many people. Unfortunately, email was never designed to be private or secure. Over time, we’ve developed several tools and techniques to help make it more secure. But at the end of the day, no matter how uncomfortable it makes ...
Continue →
Woman Shopping - Holding Shopping Bags - Retail - Spending Money Finance

What Does it Mean to be Able to Afford Something?

Most everyone will agree that you shouldn’t buy things that you can’t afford, yet so many do. Why is that? It seems to us that one of the reasons for this is because many don’t know what it means to be able to afford something. Spoiler alert – it doesn’t ...
Continue →
Scroll to Top