Preface: It was the biggest inflation and the most sustained inflation that the United States had ever had. —Paul Volcker (1297 -2019)
If Inflation Conditions Where Will Your Business Be?
Credit: Donald J. Sauder, CPA | CVA
The debate of whether inflation is entirely a monetary phenomenon or a result of business decision-makers does little to effectively fix the business or societal implications, and additionally, both the immediate and long-term consequences — whilst we know that inflationary conditions commonly prevail in economies when too much money chases too few goods.
For decades entrepreneurs have flourished while enjoying relative price stability from artfully calibrated decisions on the prime rates and easy tax policies. The expansion of credit provided extra money for increasing player participation while expanding palates for the status quo.
Correspondingly the money supply has expanded substantially since the start of the Covid Pandemic in Q1 of 2020. But, not unbeknownst to your friendly bankers, the tools to track the creation of money that is chasing goods have swiftly changed as well, with the reporting on monetary instruments becoming increasingly opaque. Therefore, making informed financial decisions increasingly requires entrepreneurs to prepare for activities with both a sunny clime or perhaps concerning turbulence, plainly requiring a dual risk-management approach.
History has yet to demonstrate that any economy can print itself to a permanent plateau of prosperity. Yet is does teach that economies are powered by the willingness of participants to assume a variety of financial risks based on future rewards from those risks. These financial risks can range from spending savings for a vacation or purchasing a vehicle to homebuyer borrowing for an upgrade, small or large, to active or passive investing in a new enterprise start-up.
An entrepreneur’s cost of capital should be watched diligently at all times, but especially during inflationary times because as prices rise, balance sheets will need to scale — eventually. The business characteristic of utmost importance in inflation periods, known only to God say, is how long and intense the time will last. For simplicity, if the current negative range between the consumer price index and interest rates continues to drive negative rates of return, eventually the most robust balance sheets will atrophy, and the prudence of diligent savers should expect experiences of growing financial declines purchasing power.
Looking a demographics, an increasing number of entrepreneurs have minimal if any experience managing an enterprise during a prolonged period of inflation. Like the first day of school, inflation is exciting and always feels good when it starts. After a while, only a few extraordinary are enjoying the process, and then (fortunately and eventually), summer vacation arrives again. Similarly, for those students who apply themselves diligently and principled to the task of navigating inflation, it won’t be easy to keep on track from day one, but there will be a payday. Inflationary hikes require that entrepreneurs be careful, cautious, and meticulous.
For instance, those businesses whose attempt to cut costs and accept lower quality output will be the proverbial students who fail the grade. Yet, reducing costs is essential. This phenomenon is largely overlooked today, not just for entrepreneurs but also for many taxpayers. Those on just-in-time budgets in prolonged inflationary periods will eventually discover that cost-cutting will be paramount to avoid insolvency.
A prime example is if a homeowner experiences increases of 10% to 12% in real estate taxes (this is occurring in some states), maintenance expenses, upkeep, utilities on the property will necessitate a corresponding increase in wages to maintain the status quo. If this turns into stagflation say, some will quickly discover that essentialism is not just a technical phrase. It is essential. Or to the contrary, what entrepreneurship effect would price controls create if implemented to protect households, and is your business prepared to navigate such conditions?
This leads us to a quote from Murray Sabrin, Ph.D
A caveat is in order. As physicist Niels Bohr exclaimed, “Prediction is very difficult, especially if it’s about the future.” Nevertheless, I will weigh in fearlessly with my 10 cents. The Fed’s inflationary policies have increased my two cents fivefold. Maybe the next cryptocurrency is on the horizon: My 10 Cents.
If a dog can have a crypto, why can’t a retired finance professor who warned the public that prices were about to accelerate due to the Fed’s inflationary policies in the spring of 1976 have one?………..
My fearless forecast, therefore, is: Inflation accelerates in 2022. Then, the public outcry over skyrocketing prices and the media reports highlighting how prices are decimating the average family’s purchasing power may cause the Biden administration to impose wage-price controls as President Nixon did in 1971 to take the sting out of inflation before his 1972 reelection campaign. Biden could use an executive order if Congress doesn’t give him statutory authority to impose price controls.
Without price controls, I expect the Fed to raise the Fed Funds Rate, sometime in 2022 and to continue tightening in 2023. Thus, the next recession could begin in the fall of 2023, but no later than a year later. If the recession does not begin on schedule, it only means it has been postponed, not eliminated.
President Jimmy Carter knew astutely how to solve that Euclidean algorithm from the 1970s inflation in a world reserve currency. Today – those like Murray Sabrina, quoted above, realize times have changed in monetary policy, and an Administration can’t easily appoint someone to walk in the shoes of Paul Volcker because innovative monetary strategies will be required. Most entrepreneurs, realize this too?
To be continued.