The US Government has been intentional in signaling to the economy and financial markets that they will do whatever it takes to counter economic weakness related to the pandemic. Recent stimulus plans have been designed to increase confidence through words but also through actions of adding money to the economy. M2 money stock, which is a broad measure of the money supply in the economy leaped in recent months. Leaped is possibly an understatement, a chart of M2 now looks like the left-hand side of the Eifel Tower. So now comes inflation, right? The answer is not as clear as just looking at the supply of money. The other component of inflation is money velocity, or how fast money is changing hands and moving through the economy. A chart of velocity shows a steady decline for years with a further drop-off in recent months given the coronavirus-induced economic shutdown. Money is being injected into the economy, however, the money is not moving around, relatively speaking. The result: inflation remains muted.

Slow, steadying rises in prices (i.e., inflation) is not necessarily a bad thing. Traditionally it has meant the economy is growing and healthier. Also, inflation can help reduce debt burdens. Fixed interest rate government debt, financed at very low levels, can be paid down by a growing economy. A good analogy, a home mortgage is easier to pay down when your income is rising. Inflating our way out of record levels of debt is certainly on the minds of government officials. 

Inflation can become a problem when changes are abrupt. Inflation shocks can create dislocations in the economy and financial markets. This is because the changing price levels occur faster than can be absorbed by an economy. If the velocity of money begins to increase rapidly, inflation could also jump and may require the Federal Reserve to change course.

Thoughts on inflation:

1)      Broad inflation has been muted due to a lack of velocity or movement of money. This could change; we are watching closely.

2)      Your personal inflation is important to understand. Inflation, as it relates to your spending, which is different than broad economic measures of inflation, is a personal experience. Your spending changes over time in both amount and categories of spending; planning for those changes is important.

Market comments

• May jobs data was released Friday and was much better than expected (source: bls.gov)

  • Large improvements occurred in leisure and hospitality, and retail sectors, reflecting the re-opening of the economy

• Stock markets reacted very favorably to Friday jobs data, putting the stock market on track for a third straight week of big gains

  • As of Friday mid-day, the US stock market (S&P 500) is down just -5.8% from highs set in late February

• Treasury bond interest rates have increased during this recent stock market rally; 10 year

  • US 10-year rates are low in absolute terms, however, remain higher than much of the developed world and demand remains strong