Inflation has been relatively tame for decades in the US, but a lot of suggestions in the news indicate that it might be on the rise. Though we are all susceptible to the feeling that “this time is different,” this time might actually be different. Surprisingly, a little inflation might not be a bad thing if it stays under control.
Here are a few points that capture the current thinking:
The Federal Reserve has a mandate to maximize employment while maintaining price stability, and the Fed has defined price stability as consistent with a 2% annual inflation target. Traditional thinking is that the Fed should do everything they can to support the economy and create jobs without exceeding 2% average long-term inflation. The slight evolution in thought gaining traction recently is that the Fed shouldn’t undershoot the 2% target either. Inflation at less than the targeted level would imply the Fed isn’t doing everything possible to fight unemployment in a post-pandemic world.
For the ten years from February 2011 to February 2021, the Consumer Price Index has only annualized a 1.69% annual average rate. Some Fed leaders, including Chicago’s Charles Evans (a current member of the Open Market Committee). have suggested that inflation should actually be targeted even higher than 2% in the short term so that the average rate historically will stay closer to 2%. He has suggested targeting 2.5% and suggests that he “doesn’t even fear” 3%.
Those who lived through the inflation of the 1970s are shocked to hear this kind of talk from a Fed official. Those who remember that period of real inflation still carry the scars, and those of us who didn’t live it can hardly imagine the pain that out-of-control inflation caused in the economy and everyday life.
The good news is that, generally, inflation is positively correlated with economic growth, so the stagflation of the 1970s (defined as high unemployment, high inflation, and a weak economy) is believed to have been caused by certain unique factors that are unlikely to repeat. Nevertheless, many believe that inflation isn’t as controllable as modern economists seem to believe, and letting the inflation cat out of the bag could be hard to put back in if it accelerates significantly beyond the target level.
Has the Fed been too afraid of inflation in the last few decades and is just now starting to get it right? Or are they forgetting the lessons of the past and leading us down a dangerous path to uncontrolled price levels? It’s probably unknowable at this point, but fortunately, we don’t have to guess.
Current inflationary pressures are modest and all consistent with the recovery/expansion phase of the business cycle. This is generally a positive sign for markets. Many of the assets that are performing well now, such as small cap, value and emerging markets, would be expected to continue to do well in an environment of higher-than-expected inflation. Conversely, if we knew with certainty that inflation would remain at historically low levels, we wouldn’t make any dramatic changes to Telarray portfolios, either. We are well positioned for a wide range of inflationary scenarios.
The markets feel uncertain these days, but then again, they always feel uncertain. It’s only in retrospect that these fears are put to rest through the lens of realized outcomes. Our portfolios are designed with tested academic research in mind that shows evidence of favorable long-term results for our philosophy, and we believe we are well-positioned looking forward.
Our patience has certainly been rewarded with the outsized returns we’ve experienced over the last few months, and we anticipate your Telarray portfolio will continue to be a secure path to your financial future regardless of exactly how inflation is expressed in the coming years.