5 lies the economists are feeding us

Related topics: Federal Reserve, economy, Ben Bernanke, investing strategy, Anthony Mirhaydari

Economists aren't exactly held in high regard these days.

The run-up to the 2008 financial crisis and the deep recession that followed were accompanied by reassurances from economists all the way up to Federal Reserve chief Ben Bernanke that the subprime mortgage problem was "well contained."

British economists even issued a formal apology to the Queen after she berated them for not predicting the credit crunch. Their rationale? That many were guilty of "wishful thinking combined with hubris."

Now, the same brain trust of mainstream academics and economists is offering reassurances that ring just as hollow to the person on the street. Their main arguments: Rising food and fuel prices aren't a concern and rising "core" inflation isn't a threat.

While they are at it, they also claim that ultraloose monetary policy hasn't fueled commodity and food inflation -- even though we've seen a 38% increase in the DB Commodity Tracking Index and a 22% increase in the U.N. Food Price Index over the last seven months. After all, they say, measured inflation is still very low, manufactured goods are still cheap, and wage pressures are contained because of high unemployment.

All of these theories have been espoused by Bernanke and other members of the Fed's policy committee, and by prominent Wall Street economists and investment strategists. But growing evidence suggests they just aren't true. In fact, they're flat wrong. So believe these five fallacies at your peril:

1: Inflation isn't a threat

Over the last few months, I've repeatedly discussed the rising threat of inflation and the specter of higher interest rates in a series of columns and blog posts. And for good reason: I think these upward trends will be the economic linchpins for 2011. Higher prices sit at the center of all the current major issues: energy, monetary policy and government credit risk.

These issues will be critical in determining whether a double-dip recession or period of economic stagnation awaits us.

Interest rate hikes to combat inflation are already well under way in the developing world. On March 8, Vietnam raised rates by 1% to 12%. Market chatter has China raising its reserve requirement ratio for the ninth time since 2010 to tighten lending. Thailand and South Korea are expected to raise policy rates this week, following rate hikes by Indonesia in February.

With the economic recovery now in its third calendar year and with crude oil prices up more than 55% from last summer's lows, central banks in the developed world are being forced to take action. Last week, the European Central Bank signaled that it will more than likely raise rates at its April policy meeting -- despite the fragile state of peripheral eurozone countries like Greece and Portugal.

But if you listened to Bernanke's recent testimony to Congress, and to the comments of some of the more dovish members of the Federal Reserve, you'd think this era of ultracheap money and low inflation will just keep going. For them, there's no problem at all. Bernanke told Congress he believes big increases in the prices of food and fuel will have only a "temporary and modest" impact on consumers.

Make no mistake, inflation is here and central banks will have to react.

2: 'Core' inflation is all that matters

Of course, there is also the question of whether economists are even properly accounting for inflation. Right now, the Fed's preferred measure -- the core personal consumption expenditure price index -- is rising at just a 0.8% annual rate.

You probably feel like inflation is much higher than that piddling number. That's because the core rate excludes rises in food and energy prices. Don't you wish you could just exclude those price hikes from your household budget?

The reasoning behind the exclusion is that these volatile necessities won't keep going up over the long term. Economists assume food and fuel inflation will be "contained" -- just as rising mortgage defaults and foreclosures were "contained" to subprime borrowers back in 2007.

The latest Beige Book report of economic conditions, produced by Fed researchers, suggests otherwise. The report noted that nonwage input costs are increasing and that "(m)anufacturers in a number of districts reported having greater ability to pass through higher input costs to customers. Retailers in some districts mentioned that they had implemented price increases or were anticipating such action in the next few months."