In The Fed We Trust...

One of the main fears on the stock market is the beginning of the tapering process by the Fed. Some believe that if investors lose faith in monetary policy, a repeat of the 2013 bond yield debacle will be more likely. Even if this time things will turn out not to be so dramatic, there is a high probability that the stock market could exhibit some short-term downside volatility. One thing is for sure - the longer central banks wait to taper, the bigger the chance for a taper tantrum.

As of now, Federal Reserve Chairman Jerome Powell is still committed to maintaining the bank's

$120 billion weekly asset purchases, insisting that the combined inflationary pressures of pent-up demand and supply bottlenecks are temporary. The only problem is that time passes but the consumer price index continues to spike. Does it mean that inflation got out of hand?

Let´s start by saying that severe labor shortage issues in the manufacturing, warehousing, retail, leisure, and hospitality sectors force companies to increase wages. As is always the case, to preserve profit margins, firms raise prices to end customers and consumers.

But, how is that possible that there is still a 10M worker gap versus baseline levels, and companies can’t fill their vacancies? One of the reasons could be a significant mismatch between thousands of unemployed worker skills and new jobs in high-growth sectors like software systems. Other reasons for lack of hiring are worker hesitancy related to COVID infection risk, lack of childcare, and poor wages. Powell, on the other hand, noted a sudden surge in early retirements that have contributed to reduced labor force participation. In the beginning, it is expected that such factors are likely to abate over the year, but will they?

To resolve the mismatch will require investments in job training, career development, and counseling on a significant scale. The process of matching workers to jobs is likely to take years, not months.

The second reason behind growing inflationary pressures is the supply side shortage, which has caused a spike in leasing and rent costs. As a result, suffered from warehousing-dependent manufacturers, e-commerce, and transportation companies. Computer chip shortages forced car manufacturers to reduce production, pushing car prices up to the skies.

The hoarding, on the other hand, triggered price increases for many raw materials and finished goods. Thus, the scarcity of intermediate goods causes input price increases that manufacturers pass along to customers.

Additionally, we could mention that commodity shortages are also causing long-term inflation. Oil prices, for instance, have risen to the highest level since 2018 as drivers return to traveling and go on summer vacations. Limited supplies of raw materials are due to pre-pandemic tariffs, extraction company worker layoffs during the pandemic, and shipping bottlenecks.

Last year lumber prices rose 75% from pre-pandemic levels but are still about 60% above February 2020. New home prices rose 20% in the previous year partially due to the high rise in lumber prices.

To summarize, significant labor shortages, commodity price increases, chip shortages for cars, industrial and consumer rent increases we doubt that inflationary pressures will decrease any time soon. No surprise, a higher number of the FOMC members become concerned about rising inflation. If interest rates are kept extremely low and liquidity is maintained, inflation is likely to build combined with possible further infrastructure spending. Already, monetary injections and fiscal spending combined are at the highest level since WWII as a percentage of GDP.