Precious Metals Investors Weigh Monetary Inflation vs. Supply-Chain Inflation

America is in the middle of an inflation problem right now. And, right along with all the talk of inflation, there’s fundamental disagreement as to the specific causes of rapidly rising prices.

You probably know one of the more popular narratives about the inflation we’re experiencing is that it’s temporary – “transitory,” as the Federal Reserve Chairman Jerome Powell keeps saying. The reason inflation is seen as transitory by so many is because those folks view these sharply rising prices as a direct consequence of the global pandemic and the multitude of impacts the pandemic has had on the availability of goods and services.

Few would argue that supply-chain problems aren’t having an inflationary impact right now. But are they a root cause? Or are they more of an aggravating influence on a core inflation problem that has as its genesis a massive general increase in the supply of money?

I believe these are important questions for retirement savers. How you see the nature of today’s inflation could determine how you decide to protect your portfolio from its effects.

Here’s what I’m getting at: If you view soaring prices as being largely – or even exclusively – a function of supply-chain difficulties, you might be less inclined to adopt a long-term inflation-fighting strategy designed to counter the effects of inflationary monetary policy.

However, if you see the current inflation problem as the result of a historic increase in the money supply – monetary inflation – then you’re admitting that debasement of the money supply by modern central banks is taking place at a phenomenal pace. And in that case, inflation is anything but transitory. Financial prudence demands you take the nation’s money supply growth situation seriously and also take meaningful steps designed to protect the value of your retirement portfolio’s purchasing power. To effectively mitigate the impact of chronic inflation on your savings, an inflation-defense strategy is in order. And one component of that strategy could be to include physical precious metals among your assets.

So, let’s examine this question in detail, and you can decide what YOU believe…

The Case for Supply-Chain Inflation as the Source of Soaring Prices

The supply-chain case for the inflation we’re seeing now remains the dominant narrative about why consumer prices are soaring. I contend that one of the reasons it resonates so deeply with people is because it just seems as though it makes sense in the context of the global pandemic.

“Supply chain” refers to the beginning-to-end process of bringing goods and services to consumers. There are a number of components – or links – that form supply chains, including manufacturers, vendors, warehouses, transport companies, distribution centers and retailers. And since the onset of the pandemic, supply chains have been under siege.

A big part of the reason for this is that as private businesses and governments of all sizes and levels have mandated lockdowns and other restrictions on movement, the ability of manufacturing facilities, transportation mechanisms and other essential supply chain elements to operate has been hampered badly.

So the consumer market has been plagued by a shortage of goods because of the stresses to the supply chain. But a shortage of goods in this context would not necessarily by itself cue the significant increase in prices.

This brings us to the “Part B” of supply-chain-triggered inflation – consumer demand for all those goods. In another universe, that demand might have subsided as the pandemic acted to put countless numbers out of work around the world. After all, April 2020 saw the U.S. unemployment rate reach its highest level since the Great Depression.

But in what has become a kinder, gentler world when it comes to social safety nets worldwide, many nations – including the U.S. – spent at unprecedented levels to keep the people afloat.

In this country alone, pandemic-specific “rescue” spending – aided by the Federal Reserve – reached 6 trillion dollars in 2020 and 2021. And that does not include the trillions more spent on safety-net programs in 2021 that are not explicitly pandemic-related but which have as their catalysts the broad economic effects of the pandemic. The upshot: Demand for goods and services has remained strong, including – ironically enough – demand from those who normally play a key role in supporting the supply chain but found themselves out of work due to the pandemic.

Roger Cryan, chief economist at American Farm Bureau Federation, summarizes the supply-chain inflation case this way:

Pandemic inflation…isn’t about too much money chasing the same amount of goods. It is about COVID’s reshaping of the details of supply and demand, the selected shortages coming out of those changes, and those shortages having cascading impacts through the many supply chains that make up our productive economy:

For want of a computer chip, the auto wasn’t assembled. For want of lumber, the home wasn’t built. For want of a shipping container, the television didn’t arrive. For want of natural gas, the fertilizer wasn’t produced; for want of fertilizer, the crop was stunted. And all for the want of a few key elements of the supply chain, the price of almost everything rose.[1]

As I said, the supply-chain argument for inflation seems compelling at first glance. But hold on. 

The Case for Monetary Inflation as the Source of Soaring Prices

There is, in my view, a big problem with the supply-chain-only explanation for the inflation we are seeing now: It ignores the growth of the nation’s money supply at a positively supersonic rate.

Legendary economist Milton Friedman did NOT say about the cause of inflation that “it’s the money supply, stupid.” But he came pretty close when he said this:

Inflation is always and everywhere a monetary phenomenon. It’s always and everywhere a result of too much money; of a more rapid increase in the quantity of money than in output.[2]

Economists John Greenwood and Steve Hanke agree and take issue with the position that supply-chain hiccups principally are to blame for the inflation we’re seeing today. For example, the pair say, the 1979 oil crisis that followed the Iranian Revolution triggered a massive increase in oil prices in Japan yet the country maintained relative stability in consumer prices during that time.

And today, note Greenwood and Hanke, raw-material costs in China have been flying high yet consumer prices there “have hardly budged.”[3] To their point, soaring raw-materials prices have pushed that country’s factory-gate prices to their highest level in 26 years, but China’s year-over-year consumer price index (CPI) rose by just 1.5% in October, well below the government’s official 3% target.[4]

In an October piece for global investment management company Invesco, Greenwood – who happens to be Invesco’s chief economist – goes further to illustrate why the supply-chain explanation for current inflation is untenable in his view.

“Since supply chain disruptions, electronic chip shortages, problems in auto manufacturing or the more recent surge in energy prices are global issues,” Greenwood writes, “in theory, prices in the U.S., the UK, Switzerland and Japan should be rising at roughly the same rate.”[5]

But that’s not what’s going on. Greenwood notes that consumer prices are surging fastest in the U.S., next-fastest in the UK, hardly rising in Switzerland and falling in Japan.[6]

Here is where Greenwood delivers the punchline: “The difference in measured overall inflation rates relates directly to the relative rates of money growth in each economy,” he explains. “The U.S. has had by far the fastest rate of money growth over the past 18-24 months, followed by the UK. Switzerland and Japan on the other hand have experienced only very modest increases in the quantity of money.”[7]

Indeed, the U.S. has been expanding its money supply at a rate not seen since World War II.[8] From December 2019 to August 2021, the nation’s M2 money supply grew by 5.5 trillion dollars. That’s a 36% increase in the nation’s money supply in roughly a year and a half! And Greenwood and Hanke expect another 5.1 trillion dollars will be added by the end of 2024.

In the context of monetary inflation, this enormous – and rapid – expansion of the money supply is very significant. Of the total 10.6 trillion dollars to be added to the money supply from December 2019 through December 2024, Greenwood and Hanke say to look for just 1.4 trillion dollars of that to translate into real economic growth.[9]

And as Greenwood puts it in his Invesco article, “If the quantity of money grows faster than is required to finance the growth of real GDP, it means higher prices,” which we unquestionably are seeing now.[10]

……..

[1] Roger Cryan, American Farm Bureau Federation, “Inflation and the Supply Chain” (October 22, 2021, accessed 12/2/21).

[2] Free to Choose, YouTube, “Milton Friedman Speaks: Money and Inflation (B1230) – Full Video” (March 21, 2016, accessed 12/2/21).

[3] John Greenwood and Steve H. Hanke, Wall Street Journal, “The Monetary Bathtub Is Overflowing” (October 21, 2021, accessed 12/2/21).

[4] Stella Yifan Xie, Wall Street Journal, “China’s Factory Inflation Grows at Fastest Pace in 26 Years on Soaring Energy Prices” (November 10, 2021, accessed 12/2/21).

[5] John Greenwood, Invesco.com, “US inflation will be persistent, not transitory” (October 14, 2021, accessed 12/2/21).

[6] Ibid.

[7] Ibid.

[8] John Greenwood and Steve H. Hanke, Wall Street Journal, “Too Much Money Portends High Inflation” (July 20, 2021, accessed 12/2/21).

[9] Greenwood and Hanke, “The Monetary Bathtub.”

[10] Greenwood, “US inflation.”