Inflation: Why It's Here To Stay and What You Can Do About It

The past two years have seen historic inflation levels, the highest in nearly four decades. Anyone who regularly shops for groceries has seen the staggering price increases across virtually every category of consumer goods. 

And yet, according to the latest Consumer Price Index (CPI) data from the Bureau of Labor Statistics, there has been an average inflation rate of just 3.7% over the last 12 months. In other words, according to the agency, prices adjusted for seasonality and other specific variations have increased quite lightly in the past year. Do you believe this to be the case?

When mass media outlets discuss inflation, they rarely take the time to explain what it really is, how the inflation measurement is constructed, and what factors affect the monetary system. 

In this article we will outline inflation as a phenomenon, reasons that lead us to believe that inflation will be more sustained than believed, and how investors can hedge against a scenario of persistent inflation.

Inflation: What We’ve Been Told

In general, most media outlets and government agencies maintain that inflation is the increase in prices in the economy, measured in U.S. dollars. According to this mainstream view, inflation has its origins in factors such as supply chain disruptions, the seasonality of goods, wars, and at times, the quantity of money in circulation.

A clear example that illustrates the mainstream view is the war between Russia and Ukraine. According to this view, the increase in the price of gas and other goods can be explained by a cost-push effect on commodities produced by the two warring countries. Europe and the U.S. had to readjust their supply chains after the pandemic and the war, which also explains the generalized increase in prices.

There is undeniably some truth to this. However, any perspective that attempts to explain price increases without addressing the money market is simply incomplete. After all, money is just another commodity in the economy, and it has a market that is subject to the same rules as other goods. You can’t talk about inflation without talking about the supply and demand for money in the economy.

Something’s Under the Rug

Regarding the stability of the system, we must mention that it is virtually impossible to sustain infinite debt. Uncontrolled money printing is starting to create inflation levels that have not been seen in the last 40 years. Many analysts believe that the "true" level of inflation is higher than what the government has disclosed.

One way inflation might be "hidden" is in the way many official statistics are calculated. Data provider Shadowstats calculates inflation using official methodologies used until 1980 and 1990. The changes in the methodology of price measurement that followed included a greater weighting of technological advancements and the consumption of goods and services related to communication or cable. 

Conversely, in the newer models, the costs of food, education, healthcare, and transportation have had a lower incidence.

According to Shadowstats, if we consider the methodology used until 1990, the real inflation in 2022 was above double digits and currently stands close to 8%, approximately twice the figure declared by the Bureau of Labor Statistics. If we were to use the methodology from 1980, inflation in 2022 would show an annual peak of 17%, currently hovering around 10%.

Why Inflation Might Be Persistent

As we have seen, there are structural conditions in the money market that suggest that inflation will be more persistent than currently believed. The nearly 100% increase in the money supply over the last 10 years, coupled with a decrease in the demand for money due to rapid price increases, create an "inflationary inertia" that will be challenging to stop.

In recent weeks, the 10-year Treasury yield in the United States reached highs not seen in the last 15 years. This is related to a significant shift in future expectations by economic agents: the high short-term nominal rates that the Federal Reserve uses to control inflation may transform into a longer-term policy aimed at keeping inflation in check. If the Federal Reserve sees this as a challenging inflationary scenario why wouldn’t you? 

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Another aspect that hints at the idea of persistent inflation is the order in which price increases manifest. Currently, we observe more significant increases in the market for primary goods and commodities, which are the first elements in production chains. For example, the prices of cattle or sugar increased by around 40% during 2023.

In this case, there is a cost-push effect throughout the production chains, impacting producers first, and eventually, consumers, as prices continue to rise persistently. As we have seen, there are structural reasons in the money market to believe that a significant portion of these increases will be validated over time.

Naturally, the Consumer Price Index (CPI) fails to capture the cost-push effect throughout the chain. However, when we look at the Producer Price Index (PPI), we can clearly see that there has been an increase of nearly 38% since 2020. This indicates that there is still a significant portion of the increases that have not been passed on to the public and are still "pending."

Hedging Persistent Inflation

Historically, attempts by the Federal Reserve to achieve "soft landings" have often proven insufficient to prevent major crises or disruptions in other markets. For example, in March 2023, some medium-sized banks faced a liquidity crisis that led to their bankruptcy. Since then, the Federal Reserve has implemented a credit system based on repo operations to assist "fragile" agents. The underlying question is: how many patches can be implemented before a more significant crisis occurs?

One way to mitigate the inherent risks in the current U.S. monetary system is to diversify into emerging countries with stronger growth opportunities. Colombia is a case we have discussed in previous articles due to its ability to attract American investments, engage in nearshoring, derive benefits from its position as an extra-NATO ally, and its institutional stability.

Additionally, the increase in the prices of primary products benefits their major producers: the emerging countries. In particular, farmland dedicated to commodity production located in emerging countries could represent an opportunity to achieve higher returns than what is possible in developed countries, given the challenging conditions they currently face.

To learn more about how you can add emerging-market farmland assets to your portfolio, don’t hesitate to reach out. Click here to speak to our staff.

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