“I want to talk about happy things, man.” – President Joe Biden, July 2, 2021

Lasting Disaster

The prices of certain commodities are down. But not down enough to proclaim price inflation dead.

Lumber futures, for example, declined more than 40 percent in June. This marked the largest price decline for lumber since the 1970s. But after spiking from about $495 per thousand board feet in October 2020 to over $1,423 in April 2021, lumber’s current price of $718 is still almost double its 30-year average.

Image Source: Pixabay

Futures for lean hogs have also pulled back of late. After reaching an interim high of 121.95 cents per pound on June 9, they’re currently priced at 110.10. Still, even with this recent decline, lean hogs have increased over 57 percent since the beginning of 2021.

Just one year ago, raw sugar futures were priced at 11.76 cents per pound. In February, they hit a four-year high of 18.49. At the time of this writing, raw sugar futures are priced at 17.45. Apparently, some of this price increase is attributed to concerns about dry weather impacting Brazilian sugarcane output. Should you sweeten your portfolio?

What’s going on with these wild price swings? Has demand relented? Has supply increased? Have broken supply chain links been reconnected? Should we blame it on the weather?

Maybe so. And maybe prices will fall back in line with pre-pandemic levels. But probably not…

The economy, thanks to the extreme intervention of central planners, is far different than it was before the pandemic. Government lockdowns made an abrupt mess of things – disrupting production, supply chains, and capital flows.

However, the solution to the lockdowns – free money – has created a lasting disaster that will never, ever go away. Here’s why…

Price Distortions

The federal government ran a deficit of $3.1 trillion in the fiscal year 2020…more than triple the deficit for the fiscal year 2019. The 2020 deficit amounted to over 15.2 percent of GDP. This marked the greatest deficit as a share of the economy since 1945. The fiscal year 2021 deficit will likely also be over $3 trillion.

Much of these deficits have been financed with printing press money. That is via credit created from thin air by the Federal Reserve. In February 2020, the Fed’s balance sheet was $4.1 trillion. Now it’s over $8 trillion. Nearly double in less than a year and a half.

And the Fed continues to expand its balance sheet by approximately $120 billion per month – with $80 trillion going into U.S. Treasuries and $40 trillion going into mortgage-backed securities. All this printing press money has, indeed, created a lasting disaster.

Inflation, in its truest sense, is inflation of the money supply. When the money supply is rapidly and dramatically inflated, strange and unpredictable things happen.

Zombie companies are kept on life support so they can burn up capital in perpetuity. Individuals are paid not to work. House prices bubble up. The Nasdaq – after a 10-year bull market – doubles in 16 months.

Companies like Apple and Microsoft are bid up to over a $2 trillion market capitalization. Non-fungible token (NFT) digital collage art auctions for $69 million. And a gaping divergence persists between people claiming pandemic-related unemployment benefits and a record number of job openings.

What’s more, these price distortions move in rapid and erratic ways. Lumber and food prices, for example, rise and fall like ocean tides when the sun, moon, and earth are in alignment. These wild price swings create uncertainty for physical suppliers and wholesalers.

The Wall Street Journal reported this week that grocers are stocking up on frozen meat, sugar, and other items to get ahead of projected price increases. This rational hoarding behavior is self-reinforcing, as apparent shortages and unwarranted stresses to the supply chain drive prices higher. It also leads to over-production to supply unwarranted demand, followed by supply overhang and rapid price declines.

Is the Great Post-Pandemic Boom a Great Big Dud?

Prices, remember, are information. And when that information is falsified by an abundance of fake money, businesses and individuals are compelled to do things that would otherwise be nonsensical. Of course, the market with the most falsified prices – the credit market – is also the most prone to compelling destructive behavior.

As noted above, the Fed is pumping $120 billion per month of printing press money into the Treasury and mortgage markets. The price distortions resulting from ultra-low mortgage rates are absurd. Here in the land of fruits and nuts, 1,200 square foot houses constructed in the 1940s, and having the architectural aesthetic of a shoebox turned on its side, are selling for a million bucks.

And this week, the yield on the 10-Year Treasury note fell below 1.30 percent. Considering that consumer price inflation was recently clocked at 5 percent, in inflation-adjusted terms, the yield on the 10-Year note is negative by a wide margin. What’s going on?

Are people exiting the stock market and piling into treasuries for their perceived safety? Is the great post-pandemic boom a great big dud? Is the reflation trade dead?

No one really knows…because the treasury market has been hijacked by Fed intervention. What is known is that artificially low treasury rates allow Washington to more easily service its mammoth debt.

In short, through Fed policies of financial repression (i.e. pegging short-term interest rates below the inflation rate), Washington is able to extract wealth from your bank account and future earnings to indirectly pay down public debts. The government steals growth from the economy through zero interest rates and money printing to inflate away government debt.

The consequences, however, are disastrous for wage earners and savers. By our estimation, as a rule of thumb, add a zero – or two – to the back of today’s prices, and that’s roughly what goods and services will cost by the end of the decade.

No doubt, a 10-Year Treasury note yielding 1.30 percent won’t get you there.