Runaway Inflation: Why stimulus checks were always a bad idea
Stimulating consumption during an economic contraction is the wrong thing to do
Originally posted on my Power and Markets Substack, please feel free to share and subscribe to my newsletter to get these articles in your inbox!
“The most sinister of all taxes is the inflation tax and it is the most regressive. It hits the poor and the middle class. When you destroy a currency by creating money out of thin air to pay the bills, the value of the dollar goes down, and people get hit with a higher cost of living. It’s the middle class that’s being wiped out. It is most evil of all taxes.”
— U.S. Congressman Ron Paul
Inflation is a tax. Not levied by any legislature directly, it’s the most obscure form of taxation. Everyone pays it, but the effects are most pronounced on the poor and middle class as Congressman Ron Paul illustrated.
The Federal Reserve System is the principle inflator in the United States. Politicians lean on the central bank to monetize, or buy up, the federal debt incurred by profligate spending in Washington DC. This effectively is done through “printing money,” although these days it’s entirely digital. The excessive spending paired with monetization is now evidencing itself throughout the economy in a way everyone recognizes: higher prices.
Inflation is just starting to catch up to consumers. This morning the Bureau of Labor Statistics released the October 2021 Consumer Price Index, or CPI, and it blew away expectations. Year-over-year price hikes of 6.2% with costs surging by 0.9% from September to October alone! 1 Annualizing the month-to-month inflation rate would peg the CPI at 10.8%, an incredible number. Inflation is simply devouring the average American’s monthly budget and it’s going to get worse.
“ By all accounts, the threat posed by record inflation to the American people is not “transitory” and is instead getting worse. From the grocery store to the gas pump, Americans know the inflation tax is real and DC can no longer ignore the economic pain Americans feel every day.”
- U.S. Senator Joe Manchin, November 10, 2021
How did we get here? Inflation is nothing new as everyone notices over time prices climb or packaging shrinks: shrinkflation. Before, politicians robbed you gradually; today, it’s happening at an accelerating rate. The acute surge in costs felt by consumers today is aggravated by politicians’ responses to the COVID-19 pandemic.
The initial reaction to COVID-19 was to shutter the economy. “Fifteen days to flatten the curve,” was the rallying cry. The purpose was to avert overcrowding and collapsing our hospital systems. People were expected to suspend themselves into a fortnight of stasis; the world would stood still.
An unprecedented societal experiment netted unexpected results. Automobile traffic declined substantially prompting insurance companies to give rebates or holidays for premium payments. Crude oil plunged by $55.90 per barrel in one day settling at negative -$37.63/barrel on April 20, 2020! 2 Sellers had to pay buyers to take their product. It was a moment the country was peering through the looking glass.
The political response was swift. Politicians panicked as they always do in a crisis and hastily spent globs of money as a result. The collapse in employment spurred the first wave of stimulus checks for households. The goal: goose aggregate demand in a classic Keynesian fashion. In order to buoy GDP, economists insisted people need to get out and spend money to reboot the economy. Those were the initial inflationary seeds sown.
I voiced opposition to the first $1,200 stimulus checks issued in 2020. I told those around me it’ll be a jubilant time as people notice a fresh injection of cash in their bank accounts, but that it would be temporary. The effects would be inflationary, and eventually we would give it all back.
Fast forward to today and several more rounds of stimulus checks, we are witnessing those inflationary seeds now in full bloom. The cash did indeed boost demand; record trade deficits as America imports more and more foreign goods. Ports are backed up with lines of ocean freight never before seen. Shortages are proliferating throughout the economy in everyday goods. Prices are surging as a result.
Unfortunately, these inflation numbers are the rearview mirror. The government is still the engine of inflation. The Federal Reserve has dragged its feet on an appropriate monetary policy response. They insist they’ll gradually reduce the growth of their balance sheet, and I explain why the Fed’s taper won’t work.
We also have two more months of rolling stimulus checks in front of us. Households are being front-loaded with the beefed-up Child Tax Credit in the form of monthly checks. I also go further into how this will drive stronger CPI numbers ahead.
What we are observing now are the effects of a series of inflationary actions by politicians enabled readily by the Federal Reserve’s monetization of that spending. Congress just passed the $1.2 trillion infrastructure bill last week, which will put the US government and its contractors in private markets bidding up the prices of commodities. The government is piling on.
More spending is being contemplated on top of this. The rolling monthly stimulus checks do expire at the end of 2021. If they do, this will result in a sharp contraction in Q1 and Q2 GDPs. Households are becoming accustomed to this regular supplement. Democrats want to renew this program, but Senator Joe Manchin insists on scaling this back from households making $150,000 to only those making $60,000 or less. 3 Either way, it’s still more inflation with no end in sight.
The monthly stimulus checks are nominally beneficial to consumers at first. Over time, the payments embed themselves into everyday prices. Eventually, the monthly payments cease, but the higher prices lay stubbornly in place. What was once an initial boon for your budget has now become a permanent burden. These consumer prices are not going down anytime soon.
Reversing these inflationary trends will not be easy. Heck, it’s not even being discussed seriously. The Fed is looking at reducing the growth of its balance sheet. Congress is eager to spend trillions more in the face of this. The economy is crying, “Enough!” Sadly, the reactions so far are tone-deaf.
Originally published at https://powerandmarkets.substack.com on November 10, 2021.
