Enter Your Email To Receive Our Weekly Commentary & Quarterly Newsletter
Managing Money For You and Your Family
Inflation Worries?
Kerry Bradley, CFA
 | ||||||
Copyright © 2006 - 2009 Garrison Asset Management, LLC. All rights reserved worldwide.
Deflation, Inflation or Hyper Inflation......Which Will It Be?
Deflation and inflation have been a common topic of debate now for sometime. Economists can argue both ways as the country has seen a little of both over the past two years.
Americans have certainly felt the pain of deflation in regard to their home values and 401k balances. On the flip side, consumers continue to feel inflationary pressures when it comes to healthcare, food prices and insurance premiums.
The most recent economic data suggests the U.S. economy is emerging from the economic slump without spurring inflation. The most recently reported Consumer Price Index (CPI) data showed the cost of living actually decreased by -1.5% from last August. Of course a great deal of the decline came from lower energy prices but even stripping out those volatile costs, the increase was a modest +1.4% gain.....certainly in the confines of "healthy inflation". Currently the CPI is close to the bottom of the range over the past decade and extremely low when compared to the 80's. Many economists consider an inflation rate of around 2% as "price stability", or in other words a healthy rate of inflation that should not cause the economy to overheat, and we're a long way from the economy crippling double-digit inflation we experienced in the 1980's.
Another key measure to watch closely when trying to forecast inflation is capacity utilization. The Capacity Utilization Rate is a measure of how much slack is in the producing sector of the economy. A rate near 100% signifies that capital expenditures, i.e. a new factory, would be necessary to expand output. Lower rates indicate that output can be ramped up without a lot of capital expenditure. Currently the United States Capacity Utilization rate is at 69.6%. This means that the United States has room to grow without increasing overhead. If this is the case right now how does that affect inflation? Economic research has shown that when the Capacity Utilization rate is stable then inflation remains tame. The Capacity Utilization Stable Rate is 82%. Any time the Capacity Utilization Rate is below that stable rate of 82%, inflation is likely to be moderate. Currently we are at 69.6% rate, a long way from the stable rate and a long way from rising inflation according to this metric. We have room to manufacture and produce goods without increasing fixed costs.
Our government pulled out all the stops when dealing with the financial crisis that started in earnest with the collapse of Lehman Brothers last September. They flooded the system with money in an effort to stop the potentially cataclysmic effects of the downward spiraling markets around the globe. In hindsight I think we can all agree the financial markets are much more stable and behaving more normal than a year ago. The foremost argument for troubling inflation is the amount of money the government has been pumping into the system. It is true that the government has printed a lot of dollars. But the fact is not much of that currency has made its way into the hands of consumers. A good amount of those dollars went to our banks and financial institutions to shore up capital as the credit markets seized up. These banks have significantly tightened lending standards, meaning fewer and smaller loans to consumers. And there is a new 'cautious consumer' mindset that further restrains spending. Consumer spending is two-thirds of GDP and will likely be the demand driver that does stoke inflation somewhere down the line, but it may be quite some time before consumers feel flush enough to resume the borrowing and spending habits of just a few years ago.
So who's right about inflation and why does it matter to you? The truth is a little inflation is good for the economy and corporations' top and bottom lines. There are any number of industries, starting with housing, who would love to see prices tick up a bit. Homeowners with dwindling equity would like to see that, too. The Fed and Treasury have to walk a fine line to find that sweet spot. So far they have avoided further deflation, and according to the most recent economic data, it seems our economy has room to recover without sparking massive inflation.
If you have any questions or would like to discuss this in more detail please feel free to contact us at (888) 442 - 7637.
