Jackson Jambalaya

Inflation stepped up the pace last month as it rose to 9.1%.  The Bureau of Labor Statistics stated in a press release today: 

The Consumer Price Index for All Urban Consumers (CPI-U) increased 1.3 percent in June on a seasonally adjusted basis after rising 1.0 percent in May, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 9.1 percent before seasonal adjustment.

The increase was broad-based, with the indexes for gasoline, shelter, and food being the largest contributors. The energy index rose 7.5 percent over the month and contributed nearly half of the all items increase, with the gasoline index rising 11.2 percent and the other major component indexes also rising. The food index rose 1.0 percent in June, as did the food at home index....

While almost all major component indexes increased over the month, the largest contributors were the indexes for shelter, used cars and trucks, medical care, motor vehicle insurance, and new vehicles. The indexes for motor vehicle repair, apparel, household furnishings and operations, and recreation also increased in June. Among the few major component indexes to decline in June were lodging away from home and airline fares.

Digging into the weeds provides little to no relief. The inflation rate by category is: 

Fuel Oil: +98.5%
Gasoline: +59.9%
Gas Utilities: +38.4%
Electricity: +13.7%
Food at home: +12.2%
New Cars: +11.4%
Transportation: +8.8%
Food away from home: 7.7%
Used Cars: +7.1%
Shelter: +5.6%
Apparel: +5.2% 

M2 May 2022

Monetarists expected the results over the last year as the United States money supply increased 40% in two years.  Two Johns Hopkins economists, John Greenwood and  Dr. Steve Hanke warned in a Wall Street Journal letter last week the Fed may move too far, too fast in the wrong direction: 

The relationship between money and inflation remains a mystery to many who should understand it—including Federal Reserve Chairman Jerome Powell. Late last month he said, “We now understand better how little we understand about inflation.” By analyzing the money supply during the global financial crisis, which started in 2008, and our current inflation, we can see why the U.S. economy and inflation behaved differently in those two periods. It’s all about money, not fiscal policy, supply chains or energy prices.

Money dominates. Broad money growth drives nominal spending. In normal times most money is created by commercial banks. When a bank makes a loan, it credits the borrower’s deposit account. The loan does not come from the bank drawing down on its reserves at the Fed. Banks can also create money by purchasing securities, again crediting the deposit account of the issuer or seller of the securities. Provided they can meet all capital, liquidity and leverage requirements, banks create loans out of thin air.

If the ability of banks to create money is impaired for any reason, the Fed can step in and engage in quantitative easing, purchasing assets on a large scale. This increases the money supply because asset purchases by the Fed from the nonbank public result in a payment passing from the Fed to the seller, which deposits the payment in a commercial bank. This is new money. In turn, the bank passes the payment back to the Fed, which credits the commercial bank’s reserve account. This is how QE increases both banks’ reserves and the money supply out of thin air.

During the global financial crisis—which we define as the period when the Fed was engaging in QE, 2009-14—commercial banks’ balance sheets were seriously impaired by bad loans to subprime borrowers and losses on securitized loans. Short on capital in an environment where capital and other requirements were being tightened, most banks stopped lending and creating money in 2008 and didn’t start lending again until 2012. Fortunately, the Fed stepped in to create money via QE.

The third round of QE ended in 2014. The money supply (M2) increased by only $3.4 trillion from 2009 to 2014, with $2.4 trillion flowing from Federal Reserve credit and a net $1 trillion flowing from bank credit. These changes resulted in a moderate M2 average annual growth rate of 6.6% over that period. Even with the Fed’s aggressive QE, money-supply growth and the resulting average annual inflation rate of 1.7% (calculated with a one-year lag) were modest.

The Great Inflation started with the Covid-19 pandemic. Commercial-bank balance sheets were in good shape, and, in the early stages of the crisis, Washington encouraged banks to lend more. Banks were ready and willing to create money, and they did. The Fed stepped in to create even more money.

As a result, M2 has risen by $6.3 trillion since the start of 2020, of which $4.8 trillion has come directly from the Fed and a net $1.5 trillion has come from the banks. M2 has increased an incredible 41% in only 2½ years—an average annual growth rate of 16.3%. No wonder the U.S. is suffering from its highest average annual inflation rate in 40 years at 5.7% (calculated with a one-year lag).

“Right now,” Mr. Powell said in a 2021 congressional hearing, “M2 . . . does not really have important implications. It is something we have to unlearn, I guess.” He and other central bankers must “unlearn” their disdain for monetary analysis before they make another egregious error. Because of their excesses, elevated inflation will continue for some time—at least 12 to 24 months.

This inflation cannot be reversed, but in its panic to raise rates and begin quantitative tightening, the Fed has, in the three months before June, allowed M2 growth to plunge to an anemic annualized growth rate of 0.1%. When broad money growth falls to near zero, nominal spending contracts and a recession begins.

If this minuscule growth in the money supply persists, a recession will start in late 2022 or early 2023. By raising M2 annual growth to around 6%, the Fed could avoid sending the U.S. into a steep recession, which would include a surge in unemployment. But, without M2 on its dashboard, the Fed is unnecessarily flying blind.

Ouch.   These two economists have been getting the inflation numbers right for the last year while the "experts" called it all "transitory.  Kind of like the experts who all missed 2008.  The Big Short, anyone?