Family offices – prepare for the worse: inflation is on its way

Inflation isn’t dead, it’s only sleeping. Worse, it’s close to waking up.

 To be sure, the US Consumer Price Index only posted a restrained 1.2% rise for the twelve months to November. But this was massaged down by a 9.4% drop in its energy index which hid a 3.7% increase in food. Reality is further fogged by its average performance created out of no less than 80,000 items of price data. 

According to the Shadow Government Statistics, published by economist John Williams, November’s CPI would be 5% in the US, after taking out a stream of adjustments in how CPI calculations have changed since 1990.

In mid-2020, the people of New York saw annual price rises of 12.7% and San Francisco suffered 13.3%…

Williams says: “Shifts in government reporting have depressed reported inflation.” He would prefer to see a CPI using fixed quantities and qualities, but that boat sailed years ago. 

In 2004, bond guru Bill Gross was critical of CPI adjustments which adjusted the “hedonic” value of certain items, such as computers, for their increased efficiency which still lacks relevance in the pay and pensions world.

Economist David Ranson says governments regularly seek to restrain inflation data, even where this weakens their own currency. He argues the CPI is a backwards-looking index which only takes account of commodity prices when it is too late. 

Bitcoin fans like this kind of argument, not least because it throws doubt on the financial underpinning of fiat currencies. 

Wealth adviser, Ed Butowsky says:  “The government has been artificially deflating the CPI to keep figures as low as possible.” It happens his mother was a divorcee who struggled to make ends meet – her rises in alimony failed to match the real rate of inflation. He believes US citizens are being defrauded by false counting.

Butowsky has analysed price rises for the 500 items on which Americans spend their money, according to his own survey. He breaks them down, city by city, to compile the Chapwood Index, published twice a year. 

In mid-2020, the people of New York saw annual price rises of 12.7% and San Francisco suffered 13.3%. Others fared better – Dallas only saw 9.3%.  But cities have been suffering a rise in prices way ahead of the CPI, in each and every case.  

Chapwood critics, such as bond analyst Brian Romanchuk, says Butowsky cannot validate the index using macro-economic tools. But even Romanchuk concedes that individuals can face inflation higher than official data. 

Fear that an inflationary trend will accelerate can go on to become self-fulfilling as consumers rush to buy products before they rise in price, and pay claims spiral. 

According to Willis Towers Watson, US pay settlements are likely to be ahead of inflation, although forecasts are hard to make with any certainty. 

Cathie Woods, founder of Ark Invest, says it is premature to expect a significant deflationary impact from technology. She sees a rise in inflation as a distinct possibility.

Elsewhere, money supply, which has shot up as a result of the way central banks, led by the Federal Reserve, have flooded markets with liquidity. This did not lead to inflation after the great financial crisis because neither banks nor borrowers wanted to lend or borrow. It was equally the case during the early stages of the pandemic when morale was low. 

But managers Payden & Rygel say that a large quantity of money, equivalent to $3.5 trillion, has now built up in household savings. It will begin to get spent when the vaccine programme meets with success. The latest data from the Federal Reserve Bank of St Louis showed a rare increase in the velocity at which dollars were changing hands in the third quarter of 2020. 

President-elect Biden discussed sending cheques worth $2,000 to every US citizen.  He has pledged an economic support operation worth $2 trillion, partly to fund clean energy opportunities.  The Federal Reserve says it has no plans to tighten and intends to be relaxed if modest official inflation, up to 2%, returns.

The stock market has already risen sharply, while bond prices are starting to wilt. Inflation hedges such as index-linked bonds, cryptocurrencies and gold are near all-time highs. Allianz adviser Mohamed el-Erian says markets are delicately poised:

“While the Fed is hoping for higher inflation, it wouldn’t want this to materialize through ‘stagflation’ — that is, even more disappointing growth and higher inflation.”

Other analysts say pressure on global supply chains due to the US rift with China – and pandemic dislocations – could add to the pressure, as a result of supply bottlenecks.

Commodity prices could also play their traditional role in pushing inflation higher. Opec’s decision to cut production suggests we could see a further uptick in oil prices. Other commodities are rising fast, as China’s economy improves, led by copper which has risen 30% over six months. 

Some agricultural prices have been rising even faster as a result of a developing supply/demand imbalance, due to trade tensions and climate change. 

December saw the seventh consecutive monthly rise in food prices in a row. In late 2020, Rabobank analysts warned: “Rising food prices are at the top of many governments’ lists of concerns. We can expect to see stockpiling at destinations while exporting-country stocks diminish.”

China has taken dramatic steps to underpin its supply of grain. The UK is set to become a wheat importer for the first time in forty years due to weather problems.  Nothing in this world can be guaranteed.  

A stock market set back, for example, could dampen sentiment. But when it comes to inflation, family offices need to prepare for the worst.