I don't claim to be an expert on inflation nor will I give an opinion if we will experience inflation, deflation or both. Prices on essential items are rising. Prices on non-essential items are falling (home prices, flat screens, etc). The chart below of the CRB Index shows the rise in input costs contrary to the CPI (ex food and energy) which the Fed constantly talks about as showing no inflation in our economy. Name one person who doesn't eat or drive. Just one please.
If you manufacture anything your input costs are rising. Whether it be oil to run a machine or flour to make bread, your input costs have risen significantly. You have three choices. You can raise your prices, lower your margins or reduce expenses.
The US economy is on fumes right now (government sponsored or shall I say debt sponsored). There is no velocity, no demand. Sure you can raise prices on some items such as gas at the pump. It's a commodity and we all need it, like it or not. We will pay higher prices. Other items it is hard to raise prices. Bread prices at the grocery store seem to be rising but not at the rate of grains. Flat screen prices are falling and there is no chance of passing along higher costs.
If you can't raise prices then your margins are instantly lower. If you are a public company you need to manage the bottom line. I used to own a small business. If I was in a position where my margins were being squeezed, I would live with it for a while but once it started hurting my own pay check I would have to begin making tough choices.
Public companies have to hit the bottom line and will lay off staff, cut back overtime, lower wages, etc. Sure they can cut back other fixed expenses but after two years of slow growth, those expenses must already be scaled back somewhat.
Considering those three options, I see two outcomes playing out in our future.
The economy improves, allowing input costs to be passed along to the consumer. The result will force employers to raise wages. The scary side of this scenario is there is so much money in the economy right now that any velocity will truly make us a Weimmar republic. Prices will skyrocket and the Fed is in no position to stop it. They cannot reduce their balance sheet for the simple fact the capital losses would be massive. They would need a bailout from the Treasury. Imagine that concept.
The economy continues to stagnate as it has the past two years. Considering that 20% of those lucky enough to be employed are working part time this scenario seems pretty reasonable. Under this scenario rising prices cannot be passed along. Sure some will such as gas as we are seeing now and basic needs such as groceries. Under this possible outcome, companies will be forced to reduce staff and or wages, further reducing overall demand. Those prices that do get passed along will literally choke off any remaining demand and push the economy back into recession.
Food riots are breaking out across the globe. China is faced with a very real and serious inflation problem within their country. I suspect this issue is going to come to a head far faster than June when QE2 ends and QE3 possibly begins. When the cost of milk doubles in price and wages stagnate, Bernanke will have far more to answer to than a 60 Minutes interview.
I still can't believe he said he can raise rates in 15 minutes. How naive does he think we are? Apparently very.
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