How Worrisome Is Future Inflation?

Recent economic data has bond yields jumping a little bit on the worry of higher future inflation. According to many this is the main concern behind the recent volatility in stock and bond markets so let’s see if we can’t put some of this data in perspective so we can better understand the risks to our portfolios.

Secular vs Short-Term Trends in Inflation

Inflation is closely correlated to secular macro trends in the economy. While short-term counter-trends will appear worrisome at times it’s important to keep the secular long-term trends in perspective so as to avoid confusing them with a short-term counter-trend that is unlikely to persist. The secular trends in inflation are well established and unlikely to fade in the future in my opinion. These secular trends include:

Labor class weakness – regulations, union weakness, innovative efficiencies, cheap labor alternatives and the growing power of corporate America have put tremendous downward pressure on wages.

Demographic trends are disinflationary. The ageing population and slowing growth in the overall population will tend to reduce aggregate demand and the potential for demand-pull inflation.

Technology trends are reducing the risk of cost-push inflation as the cost of production declines due to increasing efficiencies.

Inequality is disinflationary as it puts downward pressure on potential balance sheet expansion. Households are wealthier than ever, but median income relative to liabilities is also near record highs. This reduces the potential increase in the money supply as borrowing cannot expand substantially.

Secular trends are clear – the likelihood of very high inflation is low because the dominant long-term macro trends are disinflationary. So let’s turn to the short-term and see if we can’t put these short-term counter-trends in perspective.

Wage Trends are Mixed

Goldman Sachs puts together an excellent wage tracker that shows the trends across multiple different sources. Despite some slow improvement in certain indicators like the Employment Cost Index, the broader trends are mixed at best and still historically low. Goldman’s wage tracker actually moved lower in Q4 to just 2.1%.