How Long Will Inflation Last?

The Drivers of Inflation, and What You Can Do About It

Inflation is at its highest since 1982. And everyday it seems as though some new event comes along to make it worse, from issues related to post-pandemic recovery to world events that caught many by surprise. (If you’re interested in a broad overview of monetary inflation, here is a decent place to start.)

As inflation continues to make headlines and show little signs of cooling off, it is important to understand what’s causing the spike in inflation, how long most economists expect this heightened rate of inflation to last, and what investors can do to help insulate themselves from the negative effects on their savings and spending.

What Are the Current Drivers of Inflation?

A confluence of four primary historical drivers of inflation have all converged at once, timed to a once-in-a-century pandemic and our eventual recovery from its economic fall-out. Any of these factors would, under normal circumstances, put upward pressure on the monetary inflation rate; but combined, they are conspiring to create the highest inflation in four decades:

Supply Shortages: You’ve no doubt heard about the supply chain disruptions caused, in large part, by the pandemic, lockdowns and other contributing factors. You’ve also likely seen the effects for yourself: bare shelves and empty aisles at the grocery store, a shortage of new and used automobiles on car lots, or a difficulty in finding products ranging from everyday purchases to high-ticket electronics. Disruptions in the supply chain result in scarcity at retail. Scarcity for any good or service naturally drives the price up.

Labor Shortages: Experts may debate the various causes, but there is no question that the much publicized “Great Resignation” is real. In 2021, more than 47 million workers quit their jobs. This was on the heels of layoffs and furloughs that came shortly after the pandemic lockdowns were put into force. Many of those laid off never returned to the workforce, in part due to stimulus dollars that allowed them to remain unemployed with government assistance. Another symptom you’ve no doubt experienced firsthand is businesses’ difficulty finding workers, be they restaurants, retail stores, grocery stores, manufacturing plants or service-sector employees. That shortage in labor drives output down, which is more downward pressure on the supply side of the ledger. Lower supply leads to higher prices.

Rising Fuel and Transportation Costs. Like the correlation between labor and supply shortages, the rise in fuel prices is another interdependency driving up production costs across the board. Demand is up for gas as the world emerges from stay-at-home guidelines and mandates, while disruptions in the supply chain and production are creating scarcity on top of increased demand. The net effect of that double whammy: more and higher inflation.

More Cash Reserves: Two other pandemic-driven forces have conspired to create a scenario in which there is more money in the banks and in private possession than before COVID: stimulus transfers and curtailed spending, as travel and entertainment expenditures plummeted for two years. Whenever there is a surplus of money in circulation, that also leads to monetary inflation.

When Will Inflation Cool Off?

We expect this higher rate of inflation to last into 2024, and perhaps even through the end of it into the following year. Recent world events have only contributed to the drivers of inflation I enumerated above. As a result, inflation could actually get worse in the near term, before it starts to cool off at some point, hopefully in 2023 (or sooner). But things will likely not return to “normal” for another couple of years.

There are four deflationary forces that will work against the inflation we are seeing today, and are good indicators that what we are feeling today is temporary pain, not a permanent state of affairs:

  • Globalization – International trade makes access to less expensive goods and labor more possible than in previous decades, keeping production costs lower and manageable, in turn leading to lower prices for the goods and services we buy.
  • Online technology – It’s estimated that 25% of all retail will be performed online in 2022. This is a much less expensive model than traditional brick-and-mortar retail, meaning innovators will continue to find ways to deliver greater value at lower price to the consumer. That competition is a natural deflationary force we can expect to continue.
  • Stimulus expiring – It appears as though the government transfer of stimulus dollars to Americans is either over or on indefinite hold. That scarcity of money is actually a good thing, as it relates to the inflation of the dollar.
  • The Fed – The Federal Reserve has a number of levers it will surely be pulling and exploring in the coming months: interest rates on lending, an $8 trillion balance sheet it will be looking to offload, and monetary policy more generally. It’s likely that the Fed will raise interest rates six or seven times to cool off the growth of the economy by making borrowing more expensive.

What Should You Do to Combat Inflation?

While inflation is largely out of individuals’ control, there are three primary recommendations we are making to our clients and those of our trusted alliance business partners:

Update your investment portfolio. We are urging our clients to review their investment portfolios and reallocate their investments in the short term (perhaps longer). We are moving our clients toward more “inflation-friendly” investments and away from stocks of companies that rely heavily on borrowing to fund operations and growth, such as startups and technology companies. Brands that have more pricing power, such as DTE, Apple or Coca-Cola, are safer stocks because they are consumer “staples,” as opposed to “discretionary spending” for people, which is always the first thing to get cut from budgets when money gets tight. For now, growth-oriented companies are riskier investments, because they need to borrow to fund that growth, and borrowing is about to become more expensive.

Review bond and treasury holdings. A portion of your investment portfolio is likely comprised of municipal bonds and/or T-bills. Examine when these investment vehicles are coming due, and look to sell the longer-term bonds in exchange for those with shorter maturity horizons. As interest rates will continue to climb in the years ahead, it’s wiser to have two-year bonds, sell them, and reinvest the earnings at the then-higher interest rates, than it would be to get locked in to today’s low interest rates for another six years, say.

Schedule an investment review. Whether you are a client of ours or not, now is the time to review your entire investment strategy and portfolio to make sure it aligns with today’s short-term externalities. We will explore both the drivers of both monetary inflation and the investment strategies we can deploy to insulate your assets from inflation, as well as to maximize the opportunities that the current economic climate affords savvy investors. We are available for a complimentary review of your retirement and savings plan at any time. Simply contact us to start the conversation.