Supply Chain Woes and the Return of Inflation

Inflation is the rise in prices over time and lessens the buying power of currencies. For decades, economic textbooks had predicted that when the money supply grows more rapidly than the economic output of a country, inflation is the result. 

 Inflation defied expectations and was benign due to globalization and advancing technologies. The ability for cheaper goods due to lower wages and supply costs in other (usually developing/emerging) countries allowed prices to remain favorable.  Meanwhile, the rise of personal computers, the internet and the cloud has increased productivity, meaning more could be done at less cost and time.

The pandemic has changed that. For the first time in 41 years, the U.S. inflation rate hit an annualized rate of 8.6% in May 2022. In contrast, inflation was only 1.9% in 2018, 2.3% in 2019 and 1.4% in 2020.

When COVID shut down the world, the government responded with emergency measures: the American Rescue Plan, tax relief and the Federal Reserve purchased bonds and lowered the Fed Funds rate to zero. Unlike the last influx of unprecedented cash in the 2008 Great Recession, the money went directly into the pockets of citizens and closed businesses. Additional federal unemployment benefits permitted citizens to stay afloat during the closures and many were able to save. The savings rate — the share of after-tax income that is invested or saved, rather than spent — topped 33% in April 2020. The average personal savings accounts grew 10% between 2020 and 2021.  

During the height of the pandemic, businesses were closed, or essential businesses aided at a distance. Services were closed. Airports were empty. Restaurants were permitted only car-side pick up or delivery. Hair salons stood empty. The world slowly or quickly reopened depending on location. Even as businesses reopened, caution ruled the day and people remained at home.  

I recall driving to work as an essential business. I remember the desolate I-99 as I made my way into the office and the emptiness of our building each day.

Since people couldn’t leave their homes, take a vacation safely or go out to dinner, the problem started with demands for goods. Traditionally, the U.S. is a service economy, with 78.74% of workers in the service industry. The beauty of the just-in-time economy had turned into a nightmare as people demanded goods without workers or supplies to fill the orders, entitling the Global Supply Chain Crisis. It still exists to this day, with used car prices exceeding the new due to the limited supply of new cars. New cars that are available were sometimes priced over MSRP (manufacturer suggested retail price). 

Gas prices are surging at the pump. With Russia’s invasion of Ukraine and the lack of workers and equipment to scale production, supply is down. As people try to return to normal, demand is increasing.

When demand falls out of balance with supply, prices change. If everyone wants a Kia and there are only two of them, two people are going to pay more for them.  People are avoiding the higher prices if they can and the average age of a car on U.S. roads is now a little over 12 years, marking a new record.

Between money flowing into our monetary system at extreme levels to compensate for the lockdown and supply chains in gridlock, inflation has made a dramatic return. Too much cash following and too few goods is a classic case for inflation. The Federal Reserve is making the classic move to squelch the demand side by raising interest rates. The question is whether the supply chain will begin to loosen and help the economy.  

All investing is subject to risk, including possible loss of the money you invest. Nothing in this article should be construed as investment or retirement advice.  Always consult with a professional advisor and consider your risk tolerance and time to invest when making investment decisions. Review your personal situation with a professional before planning any gifting or estate planning.