Transitory Inflation Is Just Part Of The Covid-19 Recovery

These days, the phrase “inflation” is all the rage. It’s all over the news, and we’re getting questions about it left and right. It’s perhaps the first time in a decade that we’ve had to have a meaningful conversation about it. The focus is understandable, though; recent CPI prints have exceeded expectations, and expectations were already high when we emerged from the Covid-19 pause. After all, there wasn’t much inflation in the previous decade. Sure, there was the occasional modest increase, but the reality was that we were battling to create inflation, and deflation was the greater problem. With low inflation, low GDP growth, and zero or negative interest rates, everyone was talking about how we could become Japan.
Today’s environment, however, is extremely different. Sticker prices appear to be climbing everywhere, and didn’t we just spend trillions of dollars to revive the economy? Even if it isn’t entirely correct, the inflation explanation sounds appealing.

NEW YORK – AUGUST 14: People browse at a Fairway grocery store in the Brooklyn borough on August 14, 2008… [+] of the city of New York. According to a new government study, U.S. inflation hit a 17-year high in July, driven by increases in energy, food, airline fares, and clothes. In July, consumer prices increased by 0.8%, bringing the year-to-date cost of living in America to 5.6 percent. (Photo courtesy of Getty Images/Spencer Platt)
courtesy of Getty Images

Understanding the Inflationary Case
We injected massive quantities of cash into financial markets during Covid-19. All of the stimulus was critical at the time – trillions of dollars of stimulus helped firms and individuals balance their books. Even if Covid-19 decreases and business returns to normal, that liquidity is still available more than a year later.
When you combine massive stimulus, ultra-low interest rates, and output constraints, you get soaring prices across the economy.
For example, if you go to the grocery store, you’ll discover that many packaged foods have increased in price, and gas costs have risen steadily. The same can be said for a number of big-ticket things; if you’re looking for a new home or a used automobile, prices have skyrocketed.
ADDITIONAL INFORMATION FOR YOU
As a result of these sharp rises, it appears that inflation is on the rise, and we should be concerned and buying protection in the form of gold firms like Newmont (NEM), Bitcoin, or other potential inflation hedges.
However, determining whether or not these price movements are sustainable is difficult. That implies we’ll have to revisit our basic economics class to figure out what’s causing price changes. We’re talking about supply and demand equilibrium, of course.
Knowing Why Inflation Is Only Temporary
As you can see, price is primarily a function of supply and demand. Take, for example, houses. You only have one house available, and there are a lot of people who want to buy it, thus it will be more expensive. When there are a lot of houses for sale and only one individual to buy them, everyone who wants to sell will begin aggressively lowering their prices.
So, what’s going on in the market at the moment? It’s fascinating because it’s a transient set of constraints on both the supply and demand for commodities.
On the supply side, there are a staggering amount of Covid-19-related shortages. The virus wreaked havoc on a number of interconnected supply lines. During the summer and fall of 2020, earnings reports were full with talk about how tough it was to manage supply chains and how difficult it was to bring product to market effectively. Stay-at-home orders and quarantines cut down a lot of typical production capacity, and even finished products had a hard time reaching to their destinations due to shipping capacity constraints.
These pressures were particularly intense in a few subsectors. The semiconductor chip shortage, for example, has received a lot of attention. After reducing or canceling chip orders during the pandemic, automakers such as General Motors (GM) and Ford (F) have had difficulty obtaining enough chips to finish their automobiles. A vehicle’s delivery can be delayed if one or two minor chips are missing. As a result, new car supply is limited, resulting in higher new and used vehicle prices.
The crucial thing to remember is that the supply chain will not be harmed in the long run. This is a kink from Covid-19. When chip manufacturers, such as NXPI Semiconductors (NXPI), catch up on production orders and automakers resume receiving regular chip shipments, cars return to the market and prices stabilize.
This theme can be found in a variety of industries, from gasoline to steel to even your local cafes and bars, when labor is in limited supply. Over the next few months, these shortfalls will be resolved, and the supply side of the equation will return to normal.

COLMA, CALIFORNIA – MAY 14: At Serramonte Volkswagen, brand new Volkswagen automobiles are on exhibit… [+] Volkswagen at Colma, California, on May 14, 2021. Due to the global chip shortage and global supply chain challenges brought on by COVID-19-related complications, new cars are becoming increasingly difficult to come by, and costs have risen. (Photo courtesy of Getty Images/Justin Sullivan)
courtesy of Getty Images
So, what about the demand?
The supply side of the equation is a little trickier. It’s understandable that demand for things is high right now. After all, many Americans spent a year holed up at home, working from home, and spending less than usual. Now that everything is open, they can spend all of the money they’ve saved. Even if they didn’t save much, lower interest rates allow them to take on more debt than they could previously. Low-interest mortgages have influenced housing prices in particular.
However, just like supply imbalances, this demand is only ephemeral. People spend their savings, stay in hotels or fly, and then demand returns to normal. After all, we’re not eating quite as much cereal or burning nearly as much gas as we were in 2019. Prices will react when these demand pressures subside.
Is that all there is to it?
There is one caveat to this whole argument about transient inflation. That is a wage. We could see mild to moderate inflation if corporate America feels pressured to pay more, not just in the form of post-Covid-19 bonuses or return-to-work bonuses, but on a long-term basis. Mild to moderate inflation, not out-of-control inflation.
This, however, does not happen overnight. It will almost certainly necessitate a continuous increase in minimum wages, equivalent increases in federal and state wage payrolls, and then a slow trickle up the business ladder. To put it another way, even if wages do rise, it won’t happen overnight or cause a financial system shock. The transition will be gradual, and broad equity markets will be able to handle it. So don’t rush out to buy gold or bitcoin or whatever the latest security headline is. Ignore the inflation hype and stick to your plan./nRead More