What is it?

• Inflation - upward movement in prices of goods and services, decline in purchasing power over time
  • cost push - increase in the cost of producton (captial land labor entreprenuership)
  • demand pull - more people want something than is available
  • Monetarists —> MV = PT [money supply x velocity] = [price level x volume of transactions]
    • Frideman : "inflation is a monetary phenomenon"
• How do they measure it

  • CPI - Consumer Price Index

    • Historical: Originally, the CPI was determined by comparing the price of a fixed basket of goods and services spanning two different periods. In this case, the CPI was a cost of goods index (COGI). However, over time, the U.S. Congress embraced the view that the CPI should reflect changes in the cost to maintain a constant standard of living - some changes to how they calculate the basket

      • Social securitiy and TIPs are tied to this - lower CPI = lower government expenditure
      • BLS describes the CPI as a measure of the average change in the price of goods and services purchased by households over time on an average day-to-day basis.
        • The CPI represents the cost of a basket of goods and services across the country on a monthly basis. Those goods and services are broken down into eight major groups: housing, apparel, transportation, education, other goods, recreation, medical care, food - excludes investments
      • This is driven by a few key measures, mostly used cars and energy right now
      • Rents lag home prices by a bit, so will be interesting to see what happens (this 1/3 of the measure)
      • They adjust this over time with hedonic adjustments - but its really hard to quantify the difference in some stuff because its all really subjective (quality of paint)

      Relative to jobs

      • Labor Department reported Friday that average hourly earnings increased 0.4% in October, about in line with estimates
      • The department reported Wednesday that top-line inflation for the month increased 0.9% and was expected at 0.06% (which is what the ppi was at)
        • the pace of inflation over the past year to 6.2% in October from 5.4% in the prior month, exceeding the Federal Reserve’s 2% annual target and representing the highest annualized rate since November 1990.
      • The University of Michigan’s closely watched index of consumer sentiment for August slumped to around its lowest level in nearly a decade.
      • Costs at the pump have swelled 49.6% over the past 12 months

      

  • PPI: producer price index; calculates and represents the average movement in selling prices from domestic production over time

  • PCE: personal consumption expenditure, what the fed uses to calculate inflation

  • Real estate - american homes prices are on fire

    • Post 2008 there was a lot of supply because a lot of people lost their homes - but now there are not enough homes bc people stopped building + regulation and policy is very bad

What causes it?

• Why is it so high right now?

  • Base effects - compared to 2020, things are going to seem spicy (to this point, it is November, economy was normalizing a year ago)
    • This is why we want to know if its transitory [prices will stop increasing eventually, doesnt mean they will go back down] - is this just recovering from the pandemic? - But its never really transitory because prices are always meant to go up, which is why the Fed had to clarify what they meant.
  • But also we had a pandemic - businesses sold off inventory, went bankrupt, like w cars - people sold off their fleets. Everyone was prepping for the worst

• Increase in the money supply - no, not really. The money supply increases over time as the population grows, because the economy grows. This just tells you that balance sheets have expanded - which is what we want

  • Also gets into how the money is being used - if someone uses the expanse in money supply to create an amazing invention, that is good
  • Money supply pretty much always goes up
  • People use this as a political piece - TikTok comment around how the Fed is trying to destroy the world through money supply

• Expected inflation

  • Paper on how we can't have people talking about inflation because then it becomes a feedback loop - people panic

  • They can't lose control of the narrative, which is what we are getting close to

    Jeremy Rudd, a senior Federal Reserve economist came out with a paper on Friday that talked about how inflation expectations don’t really matter anymore (and they never really mattered at all, at least short term).

    The things is that the Fed sort of manifests that 2% inflation expectation number into existence (sort of, but they never really get it). Their job is to 1) focus on full employment and 2) maintain price stability, and they do that by moving economic levers:

    • Through open market operations, or buying and selling securities on the market.
    • This gently (sometimes less gently) nudges the market. But they don’t really know what is going on -

    From Rudd’s piece:

    Economists and economic policymakers believe that households' and firms' expectations of future inflation are a key determinant of actual inflation. A review of the relevant theoretical and empirical literature suggests that this belief rests on extremely shaky foundations...

    !!!!!!!

    Rather than trying to say “oh yes, we all know exactly what is happening” Rudd is essentially saying “actually, we don’t know what is happening and using expectations as a policy tool is highkey concerning”.

    Because when you when actually zoom out - the Fed is wrong all the time (we all are).

• Its more than what we think it is - demographics and technological changes and globalization and the power of the labor class versus the capitalist class

• Global inflation

  • The US had an unprecedented amount of fiscal stimulus
  • Other countries are experiencing the same amount of pressure

Types

• Deflation- Japan has really tough demographics. They have 250 -300% Debt to GDP, a ton of QE, a ton of fiscal policy support - yet they have very low inflation
• Disinflation
• Stagflation - high inflation, high unemployment, low growth - this was an oil crisis more than anything

  • history with volcker: . The days of "easy credit" turned into the days of "very expensive credit." The prime lending rate exceeded 21 percent. Unemployment reached double digits in some months. The dollar depreciated significantly in world foreign exchange markets. → had to stabilize prices

  • Fed cant do anything here
• Deflation - Cathie Wood thinks this is where we are going to be bc of demographics and disruptive innovation
  • prices fall, demand falls

Response

• Federal Reserve and Monetary Policy [fed funds, reserve requirements, money supply reduction]

  • Average inflation targeting of 2%

  • They taper in order to avoid this

  • The Fed couldn't keep inflation before this, so we have to ask how impactful nudge nudge policy really is

  • You cant just look at Fed balance sheet - the Fed ties into the treasury and swaps the bonds for deposits essentially —> the bonds come from the Treasury

    Policy Response

    • The Fed finds itself under increasing pressure to adjust policy accordingly
    • Central banks raise interest rates to combat inflation, though officials have said repeatedly they don’t anticipate doing so until at least well into 2022
    • Faith in the labor market: Fed is now putting a great deal of faith in the idea the wages soon will be constrained by rebounding participation, and that stronger productivity growth will hold down unit labor costs growth too
    • Larry summers says slow growth and low real interest rates

• Fiscal response —> this is probably more powerful than what the Fed did to impact inflation

  • US Treasury - spent north of $6T over the past year (this will not continue, this is a massive deficit)
  • Stimulus checks - this will go away and put less pressure on the whole system
  • They wanted to sustain aggregate demand which is what they did

• Crypto

  • The reason you get paid so much onn crypto is because of the risk element - you have to have that element of exposure

    Is bitcoin an inflation hedge?

    • High inflation, resulting from increased demand and supply-chain bottlenecks, formed in the recovery phase of the COVID-19 pandemic, have supported higher crypto values, particularly centered on assets such as bitcoin, which is viewed by some proponents as digital gold.

      Correlation between gold and BTC has been negative since the summer

      

Impact