Inflation, interest rates, and the Fed

[Nor-LA-SD-guy]

The essence of Krugman’s argument is that we are not watching a rerun of the 1970s because this time round there is no mechanism for creating a price-wage spiral. That is because unions are now dead so that workers are unable to ask for wage increases that match prices. As an example, Krugman contrasts the United Mine Workers contract of 1981 which bargained a three year 11% annual average wage increase with current conditions. Where now are the unions demanding 11% a year increases?

Indeed, where are the unions, period?

Today’s reality is indeed characterised by absence of a price-wage spiral mechanism, and it is the reason why the Fed’s easy monetary policy is unlikely to cause general inflation. However, that raises a critical additional point.

Recognising that the inflation of the 1970s was the result of a price-wage spiral triggered by conflict with unions over income distribution, compels rejection of the theory of the natural rate of unemployment. This theory has dominated economists’ thinking about inflation for over a generation and has twisted public thinking.

http://www.guardian.co.uk/commentisfree/2008/jun/18/useconomicgrowth.economy

[davelj]

[quote=Rich Toscano]davelj, in the graph of household net worth you linked to:

– inflation was rising during a long-term decline in household wealth as a % of gdp in the late 60s and 70s
– inflation fell pretty consistently during the big runup in household net worth from the late 80s to the early oughts

I’m just noting that a secular decrease in household net worth can happen over an inflationary backdrop, and an increase in net worth over a disinflationary one.[/quote]

Yes, this is a tricky relationship. One could argue that household net worth as a % of GDP was declining during the inflation of the ’70s as a RESULT of that inflation. That is, higher inflation led to higher interest rates which led to (substantially) lower stock prices (higher discount rate leading to lower valuations). Although, RE basically kept up with inflation during the ’70s. Likewise, from the ’80s to the mid naughties, part of the reason asset prices were increasing was a persistent (apparent) decline in inflation (which led to lower interest rates and a lower cap rate for stocks and CRE). So, there is a constant push and pull between lower inflation (and interest rates) that raises asset valuations (all else being equal) – and, conversely, higher inflation (and interest rates) that lowers valuations (all else being equal) – and an asset’s pricing power relative to that inflation. For example, if I own a piece of rental real estate and I’m able to constantly raise the rent by whatever the inflation rate is – be it 2% or 10% – then the valuation isn’t going to change much as a result of inflation because increases in Rate and Growth of the Gordon Growth Equation are going to offset one another (Value = Cash Flow/(Rate – Growth) and the denominator will remain the same. So, not only do we not know how much inflation is coming (or when), we also don’t know how it’s going to manifest itself in various assets’ pricing power. During the ’70s, for example, stocks were slammed, but real estate held up pretty well as rents kept up with inflation by and large. We don’t know whether that will be true once inflation returns the next time around.

[quote=Rich Toscano]
Anyway, to your question: I don’t know what the number is either. But I feel pretty confident that whatever it is, they’re going to go past it. That is the nature of the pressures in our political system (run by hyper-keynesians who only care about getting elected and a voting populace that is over-indebted and unwilling to take short-term economic pain).[/quote]

Yup. We the People – in aggregate, if not individually – want inflation.

[davelj]

[quote=Rich Toscano]davelj, in the graph of household net worth you linked to:

– inflation was rising during a long-term decline in household wealth as a % of gdp in the late 60s and 70s
– inflation fell pretty consistently during the big runup in household net worth from the late 80s to the early oughts

I’m just noting that a secular decrease in household net worth can happen over an inflationary backdrop, and an increase in net worth over a disinflationary one.[/quote]

Yes, this is a tricky relationship. One could argue that household net worth as a % of GDP was declining during the inflation of the ’70s as a RESULT of that inflation. That is, higher inflation led to higher interest rates which led to (substantially) lower stock prices (higher discount rate leading to lower valuations). Although, RE basically kept up with inflation during the ’70s. Likewise, from the ’80s to the mid naughties, part of the reason asset prices were increasing was a persistent (apparent) decline in inflation (which led to lower interest rates and a lower cap rate for stocks and CRE). So, there is a constant push and pull between lower inflation (and interest rates) that raises asset valuations (all else being equal) – and, conversely, higher inflation (and interest rates) that lowers valuations (all else being equal) – and an asset’s pricing power relative to that inflation. For example, if I own a piece of rental real estate and I’m able to constantly raise the rent by whatever the inflation rate is – be it 2% or 10% – then the valuation isn’t going to change much as a result of inflation because increases in Rate and Growth of the Gordon Growth Equation are going to offset one another (Value = Cash Flow/(Rate – Growth) and the denominator will remain the same. So, not only do we not know how much inflation is coming (or when), we also don’t know how it’s going to manifest itself in various assets’ pricing power. During the ’70s, for example, stocks were slammed, but real estate held up pretty well as rents kept up with inflation by and large. We don’t know whether that will be true once inflation returns the next time around.

[quote=Rich Toscano]
Anyway, to your question: I don’t know what the number is either. But I feel pretty confident that whatever it is, they’re going to go past it. That is the nature of the pressures in our political system (run by hyper-keynesians who only care about getting elected and a voting populace that is over-indebted and unwilling to take short-term economic pain).[/quote]

Yup. We the People – in aggregate, if not individually – want inflation.

[davelj]

[quote=Rich Toscano]davelj, in the graph of household net worth you linked to:

– inflation was rising during a long-term decline in household wealth as a % of gdp in the late 60s and 70s
– inflation fell pretty consistently during the big runup in household net worth from the late 80s to the early oughts

I’m just noting that a secular decrease in household net worth can happen over an inflationary backdrop, and an increase in net worth over a disinflationary one.[/quote]

Yes, this is a tricky relationship. One could argue that household net worth as a % of GDP was declining during the inflation of the ’70s as a RESULT of that inflation. That is, higher inflation led to higher interest rates which led to (substantially) lower stock prices (higher discount rate leading to lower valuations). Although, RE basically kept up with inflation during the ’70s. Likewise, from the ’80s to the mid naughties, part of the reason asset prices were increasing was a persistent (apparent) decline in inflation (which led to lower interest rates and a lower cap rate for stocks and CRE). So, there is a constant push and pull between lower inflation (and interest rates) that raises asset valuations (all else being equal) – and, conversely, higher inflation (and interest rates) that lowers valuations (all else being equal) – and an asset’s pricing power relative to that inflation. For example, if I own a piece of rental real estate and I’m able to constantly raise the rent by whatever the inflation rate is – be it 2% or 10% – then the valuation isn’t going to change much as a result of inflation because increases in Rate and Growth of the Gordon Growth Equation are going to offset one another (Value = Cash Flow/(Rate – Growth) and the denominator will remain the same. So, not only do we not know how much inflation is coming (or when), we also don’t know how it’s going to manifest itself in various assets’ pricing power. During the ’70s, for example, stocks were slammed, but real estate held up pretty well as rents kept up with inflation by and large. We don’t know whether that will be true once inflation returns the next time around.

[quote=Rich Toscano]
Anyway, to your question: I don’t know what the number is either. But I feel pretty confident that whatever it is, they’re going to go past it. That is the nature of the pressures in our political system (run by hyper-keynesians who only care about getting elected and a voting populace that is over-indebted and unwilling to take short-term economic pain).[/quote]

Yup. We the People – in aggregate, if not individually – want inflation.

[davelj]

[quote=Rich Toscano]davelj, in the graph of household net worth you linked to:

– inflation was rising during a long-term decline in household wealth as a % of gdp in the late 60s and 70s
– inflation fell pretty consistently during the big runup in household net worth from the late 80s to the early oughts

I’m just noting that a secular decrease in household net worth can happen over an inflationary backdrop, and an increase in net worth over a disinflationary one.[/quote]

Yes, this is a tricky relationship. One could argue that household net worth as a % of GDP was declining during the inflation of the ’70s as a RESULT of that inflation. That is, higher inflation led to higher interest rates which led to (substantially) lower stock prices (higher discount rate leading to lower valuations). Although, RE basically kept up with inflation during the ’70s. Likewise, from the ’80s to the mid naughties, part of the reason asset prices were increasing was a persistent (apparent) decline in inflation (which led to lower interest rates and a lower cap rate for stocks and CRE). So, there is a constant push and pull between lower inflation (and interest rates) that raises asset valuations (all else being equal) – and, conversely, higher inflation (and interest rates) that lowers valuations (all else being equal) – and an asset’s pricing power relative to that inflation. For example, if I own a piece of rental real estate and I’m able to constantly raise the rent by whatever the inflation rate is – be it 2% or 10% – then the valuation isn’t going to change much as a result of inflation because increases in Rate and Growth of the Gordon Growth Equation are going to offset one another (Value = Cash Flow/(Rate – Growth) and the denominator will remain the same. So, not only do we not know how much inflation is coming (or when), we also don’t know how it’s going to manifest itself in various assets’ pricing power. During the ’70s, for example, stocks were slammed, but real estate held up pretty well as rents kept up with inflation by and large. We don’t know whether that will be true once inflation returns the next time around.

[quote=Rich Toscano]
Anyway, to your question: I don’t know what the number is either. But I feel pretty confident that whatever it is, they’re going to go past it. That is the nature of the pressures in our political system (run by hyper-keynesians who only care about getting elected and a voting populace that is over-indebted and unwilling to take short-term economic pain).[/quote]

Yup. We the People – in aggregate, if not individually – want inflation.

[davelj]

[quote=Rich Toscano]davelj, in the graph of household net worth you linked to:

– inflation was rising during a long-term decline in household wealth as a % of gdp in the late 60s and 70s
– inflation fell pretty consistently during the big runup in household net worth from the late 80s to the early oughts

I’m just noting that a secular decrease in household net worth can happen over an inflationary backdrop, and an increase in net worth over a disinflationary one.[/quote]

Yes, this is a tricky relationship. One could argue that household net worth as a % of GDP was declining during the inflation of the ’70s as a RESULT of that inflation. That is, higher inflation led to higher interest rates which led to (substantially) lower stock prices (higher discount rate leading to lower valuations). Although, RE basically kept up with inflation during the ’70s. Likewise, from the ’80s to the mid naughties, part of the reason asset prices were increasing was a persistent (apparent) decline in inflation (which led to lower interest rates and a lower cap rate for stocks and CRE). So, there is a constant push and pull between lower inflation (and interest rates) that raises asset valuations (all else being equal) – and, conversely, higher inflation (and interest rates) that lowers valuations (all else being equal) – and an asset’s pricing power relative to that inflation. For example, if I own a piece of rental real estate and I’m able to constantly raise the rent by whatever the inflation rate is – be it 2% or 10% – then the valuation isn’t going to change much as a result of inflation because increases in Rate and Growth of the Gordon Growth Equation are going to offset one another (Value = Cash Flow/(Rate – Growth) and the denominator will remain the same. So, not only do we not know how much inflation is coming (or when), we also don’t know how it’s going to manifest itself in various assets’ pricing power. During the ’70s, for example, stocks were slammed, but real estate held up pretty well as rents kept up with inflation by and large. We don’t know whether that will be true once inflation returns the next time around.

[quote=Rich Toscano]
Anyway, to your question: I don’t know what the number is either. But I feel pretty confident that whatever it is, they’re going to go past it. That is the nature of the pressures in our political system (run by hyper-keynesians who only care about getting elected and a voting populace that is over-indebted and unwilling to take short-term economic pain).[/quote]

Yup. We the People – in aggregate, if not individually – want inflation.

[Nor-LA-SD-guy]

All that was just to say , While I agree I think we will get higher inflation possibly in the next 5 to 7 years (talking Wage inflation not asset driven), I think you need to separate Wage from asset induced inflation.

If there is to be wage inflation, then I think improved/improving employment will be necessary.

[Nor-LA-SD-guy]

All that was just to say , While I agree I think we will get higher inflation possibly in the next 5 to 7 years (talking Wage inflation not asset driven), I think you need to separate Wage from asset induced inflation.

If there is to be wage inflation, then I think improved/improving employment will be necessary.

[Nor-LA-SD-guy]

All that was just to say , While I agree I think we will get higher inflation possibly in the next 5 to 7 years (talking Wage inflation not asset driven), I think you need to separate Wage from asset induced inflation.

If there is to be wage inflation, then I think improved/improving employment will be necessary.

[Nor-LA-SD-guy]

All that was just to say , While I agree I think we will get higher inflation possibly in the next 5 to 7 years (talking Wage inflation not asset driven), I think you need to separate Wage from asset induced inflation.

If there is to be wage inflation, then I think improved/improving employment will be necessary.

[Nor-LA-SD-guy]

All that was just to say , While I agree I think we will get higher inflation possibly in the next 5 to 7 years (talking Wage inflation not asset driven), I think you need to separate Wage from asset induced inflation.

If there is to be wage inflation, then I think improved/improving employment will be necessary.

[poorgradstudent]

2009 saw DE-flation. 2010 so far has seen pretty “normal” inflation, around 2.5%/yr at most.

I’m not really a Bernanke fan, but I’m glad that the Fed is planning what to do if the recovery falters or inflation takes off.

[poorgradstudent]

2009 saw DE-flation. 2010 so far has seen pretty “normal” inflation, around 2.5%/yr at most.

I’m not really a Bernanke fan, but I’m glad that the Fed is planning what to do if the recovery falters or inflation takes off.

[poorgradstudent]

2009 saw DE-flation. 2010 so far has seen pretty “normal” inflation, around 2.5%/yr at most.

I’m not really a Bernanke fan, but I’m glad that the Fed is planning what to do if the recovery falters or inflation takes off.

[poorgradstudent]

2009 saw DE-flation. 2010 so far has seen pretty “normal” inflation, around 2.5%/yr at most.

I’m not really a Bernanke fan, but I’m glad that the Fed is planning what to do if the recovery falters or inflation takes off.

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