Inflation is coming

After a brief respite, aggressive intervention by global central banks threatens a 2011-style surge of higher prices.

By Anthony Mirhaydari Sep 19, 2012 3:31PM

Image: Inflation ( Nick Koudis/Getty Images)Stocks resumed their upward march Wednesday thanks to a surprise announcement that the Bank of Japan that is expanding its asset purchase program modestly -- in a bid to stimulus faster growth -- by $128 billion to just over $1 trillion. The Bank of England is also moving closer to deploying more stimulus as well.


All of this comes in the context of aggressive new action by central banks around the world to bolster stalled global economy. Last week, the Federal Reserve announced an open-ended commitment to purchase $40 billion a month in mortgages until the job market improves. The week before, the European Central Bank announced an open-ended commitment to cut the borrowing costs of eurozone bailout recipients.


The flood of cheap money will have consequences. Not now, as stocks and precious metals launch higher, housing recovers further, and the sugar rush encourages new consumer spending. But later, as the influence of negative, inflation-adjusted interest rates results in a repeat of the 1970s "stagflation" nightmare. Here's why.


The powers that be understand this. And that's why there have been constant whisperings, rumors, and backroom chatter that the Obama Administration is considering a release of crude oil from the Strategic Petroleum Reserve. That, along with a larger-than-expected building of oil inventories and a strange oil price collapse on Friday, will keep near-term pressure on inflation measures. At least through Election Day.


Maybe that's all that matters. Or maybe there are legitimate supply side concerns given the tensions in the Middle East.


But like the laws of nature, the laws of economics cannot be argued with. An extended 1970s-style period of negative inflation-adjusted interest rates -- at a time, like now, of relative economic stability -- risks big time increases in prices later.


These were the warnings of Fed historian and Carnegie Mellon professor Allan Meltzer, author of the multi-volume "A History of the Federal Reserve," in a call Wednesday morning. He has studied the mistakes that led to the "Great Inflation" of the 1970s, and is worried the Fed is making the same mistake now.



For one, Fed officials are much more focused on unemployement than inflation. The preoccupation is with the 8.1% jobless rate rather than on the fact producer prices rose 1.7% in August, the highest monthly rate in three years and a pace not seen since the very early stages of the recovery.


Inflationary pressures are being dismissed as temporary. But what if they're not? And besides, even temporary inflation surges can be extremely damaging. Remember the 2008 commodity price spike?


Second, Meltzer believes policymakers are focused on the wrong problem. We don't have issues -- debt/deficit problems, long-term unemployment, stagnant middle-class wages, out-of-control health care costs -- that can be solved with more cheap money. We have enough of that already, as witnessed by the $1.5 trillion in excess reserves sitting in bank vaults. If the big banks want to issue more loans, they would've done it already.


The problems need to be solved by Washington. Clarification on these issues would then solve the problem of CEO uncertainty, which is weighing on capital investment and hiring (the subject of my recent column). Uncertainty about tax rates. Uncertainty about health care costs. Uncertainty about the deficit.


Third, by encouraging people to take more risks by reducing the interest rate on "safe" assets like Treasury bonds, the Fed is setting savers up for dramatic losses if they lose control of the situation. That's because they have explicitly said one of their policy goals is to move people into assets like stocks and housing.


I don't know about you, but this is the kind of macroeconomic meddling that is more at home in Beijing or Moscow than in the land of the free.


Meltzer's advice to investors: Ride the wave higher and watch for inflation.


That's exactly what I've been recommending to my newsletter subscribers and readers for months. As I said in a recent video spot, the moves in silver and gold have become extended. Examples include the VelocityShares 3x Silver (USLV), which is up nearly 100% since I added it to my Edge Letter Sample Portfolio in late July.



If you're not in these areas already, consider new areas of strength. These include large-cap stocks with emerging market exposure like Caterpillar (CAT) and Yum! Brands (YUM). I am adding YUM to my sample portfolio.


Check out Anthony's investment advisory service The Edge. A two-week free trial has been extended to MSN Money readers. Click here to sign up. Contact Anthony at anthony@edgeletter.c​​​om and follow him on Twitter at @EdgeLetter. You can view his current stock picks here. Feel free to comment below.

Sep 19, 2012 7:19PM
Half a gallon of milk and a bag of ginger snap cookies today at a local ma and pa store close to 7 dollars. Its here its been here and CPI and PPI are rigged since the 80s to protect the bond markets.  Its all a scam folks and QE3 is just going to make it worse when the bond bubble pops and rates skyrocket on the open bond market to even more than where they should be now if it was not rigged.
Sep 19, 2012 6:52PM
   I see this issue as just a dot on the horizon barely in view in the grand scheme of things. Our government spends money like there's no tomorrow. Everytime I look at the staggering national debt and lack of a balanced budget, it makes me cringe. At some point the economy will collapse and who's going to bail us out then. The federal government appears to only have one answer for any problem: throw large piles of tax dollars at it and see if that helps. All the money you've managed to save over the course of your life will be worthless. The worst is yet to come. All these politicians need to apologize to our children that are having their futures crushed. Until money is removed from politics nothing will change!   
Sep 19, 2012 6:37PM

Agreed that inflation is coming, and no it's not "already here".  We've been getting sort of typical average /  slightly higher, than average inflation, mostly due to food and energy prices. 


The real inflation will happen when banks start lending again, and all the cheap money from QE1 through QE(x?) begins to surge into the economy.  This will cause an initial, but brief, boom period, followed by aggressive action by the feds to move towards high interest rates. (especially if Ben is no longer chairman.) Rates need to come UP a little before banks start lending.


There will come a time when we see a mass exodus from equities, probably in the magnitude of 30-50% drop.  Won't happen this year, or probably next year, but it IS coming.  Watch for rates to rise upwards around 5-6%.  (we're a ways off from that yet)


BTW, if you think some old book proves that stocks will drop to near zero before the end of the year, and that it will be just like France during the French Revolution, you are an idiot.  (that means you, VL)


Sep 19, 2012 6:35PM
You folks need to aim at the correct target. The New World Order is the economic game plan.  The goal is to move  production by the International Corporations across all borders.  In order to accomplish this real wages in the US will need to be as real as compared to Chinas., Koreas, and Mexicos.  If you google wages in these countries you will see how much the Gubermental commitment  to this Order needs to lower real wages here.  If our hourly wage is $10 per hour and Chinas' is $2.50 then we need either 400% inflation or a combination of inflation there deflation here but you get the point. The United States Congress Senate and the POTUS are all in this fix together.  That is precisely why what they want to happen is happening. Our government that we thought we had representing us is a thing of the past.  Our representatives maybe 15 years ago made this committment and all hands are present. So to them massive inflation is part of this process. So it matters not who is President as whomever is will definitley fall in line. The outcasts to this plan are the Tea Partiers.  Liberals demonize them without understanding they will not cooperate and the pressure to keep them out of the system is huge.  We will very soon resemble Cuba.  Hold on to that 92 Chevy. Some still can't appreciate this is happening and that is understandable.  I am 100% confident that what I say is true.  There will be no housing recovery.  There will be no improvement in the jobs picture and I assume shortly we will see a new Currency.  This will be the ultimate weapon used to take from those most successful.
Sep 19, 2012 6:28PM
google 19 reasons why the federal reserve is at the heart of our financial problems
Sep 19, 2012 6:07PM

One of the few benefits of a slow economy and quantitative easing is that the federal government has been able to borrow money dirt cheap, keeping interest on the debt from causing much bigger fiscal problems. Look for that to end when the economy heats up. The Treasury Dept. should convert its short-term debt into long-term debt to lock in these near zero rates before it's too late. 



Sep 19, 2012 6:05PM
Inflation isn't's already been here. "Liars figure and figures lie..."
Sep 19, 2012 6:03PM

It seems there may be some confusion, or is it me?   This article speaks of both price inflation and the inflation of the money supply which weakens the dollar.  Both are painful but price inflation, as shown in his example is not necessarily caused by a larger supply of money. This is usually triggered by classic supply and demand dyanmics, and the never ending quest by producers to hold profit margins. The larger money supply will probably lead to yet another bubble popping.  The US dollar. 


Obama is a commie


he is reducing our nuclear weapons to zero.


he has told the army not to even try to do alternative fuels.


he is now about to drain all the fuel out of our US reserves to insure when the arabs rebell and quit selling us fuel there will be none in the US.


this goes along with his not letting anyone drill for new oil.


pretty much the US is now a has been country.

Sep 19, 2012 5:57PM
A little late, Anthony. the key here was to not waste your time frothing over stock gains caused by a deflating dollar and fortify the likely spikes you can't live without. Hoarders and Preppers might be cornering the food products and enjoying Wal-Mart goods o'plenty, but history suggests there is a direct relation to inflated prices and availability. What good is being a 30-year old millionaire if you can't buy fresh socks or underwear?

How does a great nation of America get brought down? It fires it's own workforce and destroys the infrastructure to rely solely on imports. It convinces the masses to be reliant on handheld devices with apps, eliminating the premise for self-sufficiency. It forces them to use credit that eventually ties up every incoming dollar. It gets them hooked on junk and fast food. Inflation doesn't just raise prices, it retards supply until the cost to import exceeds the nation's ability to purchase. we can't just turn-coat and conjure up our old infrastructure any longer. It's been sold off.

Good article, but the need to-- Close the banks, end the Federal Reserve, get rid of Wall Street and concentrate 100% on JOB RECOVERY is absolutely critical now. We can only stop what Ben has started by a full-out restoration of revenues, incomes and broad purchase revival.

Sep 19, 2012 5:55PM

We should not be thrilled over growth or scared of inflation.  Actually this planet absolutely cannot handle growth in population, building, and economics like it has been going over the last 50 years.  For this planet to be healthy 1000+ years from now, we need to target ZERO growth.  If everything we measure was at 0%, everyone would panic...but that is exactly what is needed to sustain our planet long-term.

Sep 19, 2012 5:49PM

Obama wants to tap into the US reserves to lower the price of gas, so the Dumbocrats will think now that gas prices are is good again. It is an illusion purely for election day...he's only good at smoke and mirrors but his party continually drinks his Kool-aid!


Romney states the hard true facts of our economic despair....Obama will sugar-coats everything until election day.


We need leadership not rhetoric - Obama's improvement in 4 years = zero. 

Sep 19, 2012 5:48PM

We already have inflation!  Who in their right mind excludes two major sectors of the economy in the calculation of "inflation"?

Sep 19, 2012 5:47PM

The fed's job is to stabilize the banking industry.  They are recapitalizing the banks as they modify loans and sell off foreclosed properties and have to book to value their portfolios. The real estate loss in valuation was in the trillions and is being held as "toxic" debt which is slowing being realized onto their statement of assets.

Sep 19, 2012 5:25PM
QE3 - printing money - is a deliberate act by the federal reserve to destroy the USA dollar. Why? who gains here?? Printing money dose not increase employment, it create inflation and destroys consumer buying power. The federal reserve board has got to know this, so why are they printing more money? QE3 is so blatantly inflationary that only someone with an agenda to destroy America would do it.
Sep 19, 2012 5:02PM
We all knew this was coming. How could any sane person believe obama deserves four more years? My gosh.
Sep 19, 2012 4:55PM

Ever since 2009, I have paid more for what is the big news here?

The middle class is shrinking and so is our spending...not a good mix!!!

Sep 19, 2012 4:50PM
Meltzer has been warning that inflation is just around the corner since at least 2009 and he has been wrong. With interest rates still near zero and a depressed economy with high unemployment, there is no reason to expect runaway inflation. If it should start when the economy is back to full employment, the Fed has the tools and the will to tamp it down. Actually a higher inflation rate of 4% would be good for the economy right now....
Sep 19, 2012 4:49PM
Well, NO DUH, Anthony! Devaluating currency does that. We MUST get rid of the Fed! They always seem to be at the core of this country's economic problems.
Sep 19, 2012 4:40PM
There's no mention of trade deficits in your story.    Banks can make loans here but the money just zooms  to over seas markets for oil and Chinese imported goods and products.    The money never goes into the US economy thus no jobs here.
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