Last month consumer prices rose 7.9% from a year earlier to reach a 40 year high. While that figure is impressive, it may hide the harsh reality that essentials including food, appear to be rising at a significantly faster rate. Adding to the pain, household income has fallen by the fastest rate in 70 years. Meanwhile, uncertainty about the war in Ukraine has undermined the ability of many experts to have confidence that inflationary pressures will diminish anytime soon.
According to Barron’s, if you calculate core inflation by excluding everything but essentials, the opposite of the common government method of stripping out food and energy prices from total prices, inflation for basic goods actually increased 16% from the year earlier.
Barron’s continues:
The implications of fast-rising costs of essentials, especially food, go beyond the obvious threats to consumers’ standards of living and the ability to drive broad economic growth. The outsize impact of grocery prices on broad inflation expectations portends higher prices still, especially as the war in Ukraine removes a large swath of global food commodities and oil—crucial for food packaging and transport—from the market. At the same time, and merits aside, some strategists say the particular sanctions on Russia undermine the current economic order at the expense of the dollar. A potential collision of lurching inflation expectations with the threat of fading confidence in the U.S. currency is a recipe for the type of runaway inflation some strategists are starting to worry is more possible than investors appreciate.
Up to this point, experts and policymakers were anticipating the worst of inflation to peak this month, but then – Russia. Russia’s move to invade its neighbor, and sanctions put in place as a response, have taken significant commodities offline. Russia’s wheat exports represent one-quarter of the world supply, their corn equaling a fifth of the world supply. Ukraine’s cropland, which normally would be equivalent to Illinois and Iowa combined, is unlikely to yield more than 30% of normal.
Inflation is not only defined by increased costs, it is equally a psychological construct. As prices rise and consumers fear future increases, they tend to stock up, which increases demand and lowers available supplies, thus driving prices up. In this way, inflation becomes a self-fulfilling prophecy.
Evidence of that trend has mounted with food demand increasing to a multi-decade high. Because of the essential nature of food, consumers seem to react most to increasing food prices, which feeds into this inflationary spiral more than cost increases in other areas.
Some experts believe that the use of economic sanctions by the West may lead to a loss of confidence in the U.S. dollar. The power of the dollar as a benchmark currency has been its stability and relative safety across the globe. Now the dollar has been “weaponized” in the name of punishing Russia. Not all countries are on board with the West’s assessment and response to the invasion, including many Asian and Middle Eastern countries. China hopes to take advantage of the situation by expanding efforts to replace the dollar with the Yuan. In fact, Saudi Arabia is currently considering trading oil for Yuan.
Should the Yuan or cryptocurrencies replace the dollar in a significant part of the world, it would make the dollar less valuable and could fuel runaway inflation in the U.S. Once inflationary psychology kicks in, it feeds on itself to add fuel to the fire. So though we can hope runaway inflation is not in our future, the idea that persistent inflation will be here for the foreseeable future is a realistic possibility.
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