Inflation, or Is It Inflation?

The Gravedancer, Sam Zell, bought gold.  For a second I thought he was watching a lot of Fox News.  But, he said it was a hedge against inflation.  He’s seeing a lot of inflationary pressure in markets.

I remember the inflation of the 70s.  Heck, I took out a 3.5% government college loan and didn’t spend it on college.  It was legal at the time.  I put it in the money market at 19% earning a 15.5% spread.  I kept re-investing it until finally the 8% I was earning seemed like a pittance.  So, I put it in a stock and doubled it.  I paid off the loan and had cash to spend.

Gold in the 1970s took off.  A friend of mine bought the high tick.  It wasn’t until over 30 years later that it ticked up that high again.  Gold doesn’t seem like a good long-term inflation hedge.

It’s worth noting that the largest input into production is labor, not raw materials.

Except, raw materials have certainly had a huge bull market over the past year.  It’s not just lumber that’s up.  Steel is up.  Corn is up 142%.  Wheat is up.  They aren’t up by just a little either.  Anecdotally, I am hearing stories of people that were going to build homes that are putting it off because of the lumber price.

When I look at supply chains in all industries, they were extremely brittle. That meant a large exogenous shock like Covid would really disrupt them.  A disrupted supply chain takes time to heal.  It’s not a piece of software.  Supply chains are affected by something called the “bullwhip effect”.  I think Covid really has coiled that bullwhip and let it fly.

It takes a long time for supply chains to build in more capacity.  You can’t just create a sawmill overnight.  You’d think with the way lumber prices are, people that owned timberland would be licking their chops.  But, they aren’t.  There is plenty of timber.  The bottleneck is in processing.  You can’t get the logs delivered and turned into lumber.  The lumber has to age and dry.  Then it’s hard to find trucks to haul the lumber.

What has happened over the last 20-30 years is we have gotten super analytical and data-driven.  We have gotten a lot more efficient at producing things.  That’s caused manufacturing consolidation in a lot of industries.  Some industries off-shored their manufacturing and lengthened their supply chain making it more brittle than it normally would have been.  That caused a huge decrease in costs, but today that huge decrease in costs might pale in comparison to the opportunity costs of having a brittle supply chain.

Some states are experiencing gas shortages.  It’s not because there isn’t raw material.  It has to do with the fact there aren’t enough tanker trucks to haul processed fuel and there aren’t enough refineries to make it.  Pork and beef prices went higher not because the herds are smaller, but because Covid caused the slaughter plants’ lines to move slower so they couldn’t process the same amount of animals.  The same goes for microchips.  Can’t get the chips, so car manufacturers have to lay off their workforce for two weeks driving up the price of new and used cars.  Industry after industry is experiencing similar.

The other unprecedented phenomenon that we have had is the large amount of government transfer payments.  Huge trillion-dollar bills that spun up more debt, and gave cash to people.    The fact that rent has been forgiving is a huge deal.  The forced shutdowns of businesses are a huge deal.

The more the government spends, the worse it will get. 

Yesterday, the state of Montana started to put an end to it.  In their state, hourly wages with the government transfer payments were $20.18 per hour.  Remember the fight for $15?  We are well past that. Fully 50% of Montana’s workforce made more sitting at home and collecting a check than they did when they were actively engaged in the workforce.  How many other states are like that?  I’d be willing to bet it is more than 25 of them.  If anyone wanted to see a Universal Basic Income experiment, we are seeing it in real-time and the results are not good.  UBI was, is, and always will be a very dumb idea not based on human incentive and DNA, but just a do-gooder policy that warehouses people instead of encouraging them to be hopeful and realize their potential.

Anecdotally, I am hearing stories from all kinds of business owners that cannot get people to work for them.  One person we know has 20 containers of material waiting to be unloaded at the Los Angeles shipyard.  Another person I know can’t get menial delivery labor.  Restaurants can’t get people to work for them as they re-open.  Another person I know had three people not show up to interviews for his contracting firm.  People are doing the math and as long as Uncle Sugar doles out a check, they are staying home.

When Covid happened, egg producers that serviced restaurants wanted to get into the consumer egg market and couldn’t. Why?  They couldn’t get the styrofoam or cardboard to house the eggs and there wasn’t any transportation for them to get the eggs to market.  As a result, consumers paid a lot more for eggs.

The forced government shut down had massive opportunity costs that weren’t figured in.  The fear of the virus which proved unfounded for healthy adults and children drove poor policy decisions.  That same fear continues to drive terrible policy decisions with bad consequences for all of us.  Remember, if you were under 60 and healthy, you had a 99.97% chance of survival if you got Covid.  Today, if you are vaccinated, you have a 1 in 240 billion chance of passing Covid to another vaccinated person, or a person who had Covid and got over it.

You can’t get Covid from surfaces.  Masks don’t stop the spread and are useless.  They are only a symbol at this point and a point of control for corporations and governments.   We found out that six-foot distancing wasn’t based on science but was an old wives tale.  Turns out, being cooped up in a house with family members makes Covid spread faster.  Yet, look at all the fear that is being spread today by government officials and apparatchik policy wonks.

As the government has expanded the amount of debt it has taken on, people are looking around the corner for inflation.  You see it in the price of gold, and you see it in the price of Bitcoin.  There are advisors that don’t believe what the US government has done is sustainable and are telling clients to put a lot of their net worth into Bitcoin.  Have you seen the price of Ethereum lately?  It’s on a tear.

One other thing I noticed back in 2007 when the Chinese were going to host the Olympics in Beijing, every commodity went up ahead of it.  The Chinese were in every market buying because they were going to put on a show.  After a while, it abated.  I remember Crude Oil going up as high as $140/bbl and then crashing.  The Chinese host the Winter Olympics in 2022.  I can’t help but think there is a similar correlation going on though I readily admit I have no evidence to prove it.  Only gut feel and deduction.  Sometimes we old traders can smell out a trade even though no one else sees it.

Additionally, the Cato Institute put out a study that shows how state and federal policies make it super hard to start a business.  This is not something that is new to anyone paying attention.  But, it has far-reaching effects in a pandemic where so many people were forced to be laid off.

This report argues that state and local policymakers should slash regulatory barriers to startup businesses. State governments should repeal certificate of need requirements and minimum wage laws, liberalize occupational licensing and restaurant alcohol licensing, and fully legalize marijuana and hemp businesses. Local governments should reduce and simplify permitting and licensing rules for new businesses. They should also liberalize zoning rules for home‐​based businesses.

The report presents an Entrepreneur Regulatory Barriers Index, which uses 17 variables to rank the states on their barriers to startup businesses. The results suggest that the lowest regulatory barriers are in Georgia, South Dakota, North Dakota, Colorado, New Hampshire, Kansas, Indiana, Wyoming, Utah, and Ohio, while the highest barriers are in Rhode Island, Oregon, Nevada, New York, West Virginia, Washington, Hawaii, California, New Jersey, and Connecticut.

At the federal level, the Biden administration is likely to increase regulations on businesses and raise taxes, which would undermine entrepreneurial activity. But state and local governments should move in the opposite direction and repeal unneeded barriers to new enterprises and spur economic growth.

I am not sure when the merry-go-round of free cash from the government ends that inflation will really rear its ugly head. It will take time but free-market forces should start to build more production so that the bullwhip effect lessens.

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