With money being pumped into almost every part of the economy right now many people are worried about inflation caused by the Coronavirus. The Federal Reserve is injecting an almost unimaginable amount of money into the economy. Economics 101 says that the more money that enters the economy, the more the money loses its value. True, but it is far more complicated than that in macroeconomics. In this post I will explain what causes inflation and what the Coronavirus will do to your dollar.
The CARES act and every other act the US Government has planned to push through is providing much needed stimulus to the economy. The government probably gave you a check, extended unemployment benefits (probably temporary), and/or provided you with loans for an affected business. Say what you want about exactly who the stimulus should go to, but that is still $1.8 trillion put into a troubled economy. It is unlikely you were not touched by this stimulus.
Almost everyone has received some money to spend. In theory that is putting money into the economy. However, people are not just easily parting with this money. The US personal saving rate exploded to 33%. A FIRE tsunami swept through America.
Is A Saving Account The Economy?
When you put money into savings is this money in the economy? Truth is money is only ever in the economy during a transaction. When you buy milk at the convenient store the $3-5 you are spending is only in the economy when you hand over the money. Before that, the money is only in your hands. After that the money is in the cash register or wherever the money is held.
Money needs to continuously flow for the economy to work. The convenient store does not just keep the money from the milk. They pay their employees who pay others for products/services and they pay suppliers who pay their employees. All the details involving money flow for the economy would make even the most intricate spider web look like a simple connect the dots.
So what happens if people are not spending that money? It would be like you cut a string in the web where the money goes. If that string is crucial to suspend a section of that web, that section would sag. More appropriately termed, it would deflate.
Are Banks Loaning More Money?
This is a strange question to ask, but hear me out. If you think about it, the money in your savings account is not always at the bank. Normally, putting money in savings is not the bank storing your money as much as it is gladly taking your money to loan to others. However, banks are not lending as much right now as pre-Covid. Instead, they are holding onto cash. Therefore, the money injected into the economy is not so much stimulus as it is refilling the reserves for investors who loaned money. If the money is not transferred into the economy, inflation is not likely.
What Else Did People Spend The Stimulus Check On?
According to a survey from the Census Bureau, most of the households did not save their stimulus check nor use it to pay off debt. Instead they used it for common expenses including housing, utilities, and food. Less than 10% of people used the check on household goods. The stimulus checks people spent were not spread among typical consumer goods, but used mostly on essentials.
This is one of the few areas of the economy of the economy where money has been flowing into. Some grocery stores have already seen inflation in some prices including eggs and other commodities. Furthermore, I believe there is inflation in some delivery services. I am not so sure since I almost never use them. But the missus and I sometimes order pizza and the first thing to pop up is the price of pizza with delivery services. They were almost always more expensive than buying from the restaurant. However, I can swear last year they added $3-4 dollars for the service. Now it appears to be $6-8. And a lawsuit brought up for excessive fees suggests this is the case.
Necessities Are Inflatted
So do not worry too much. The Coronavirus has only caused inflation of necessities in which everyone needs to pay for when money is tight. (Extreme sarcasm notice). Oh, and also delivery services (not as necessary). This may be temporary, but people have felt it. I usually buy groceries on sale, which means beef has not been on my grocery list for a while.
Deflation Could Happen
The stimulus is meant to fight deflation. Deflation occurs when there is a drop in demand either caused by a lack of money or credit lines. Banks are preparing for credit defaults. Therefore, they are holding on to money instead of loaning money. This restricts credit lines for many consumers. Furthermore, many workers are unemployed so some money supplies are cut. This means that deflation could happen because of the Coronavirus, not inflation, especially for consumer goods.
Other Effects Of The Coronavirus
If you only factor in money there is little to worry about. But what about product? Printing money produces what you buy things with, not the things you want to buy. A trillion dollars with nothing to spend it on can only be used as fuel for a fire. We have had our worst post-war quarter GDP contraction of 32.9%. Less work means less product. Money has come in, but fewer products have come in. If the same amount of money (or more) is going to a lower supply of products that can cause inflation.
However, with more people saving this may not happen in the near future. Furthermore, it is unlikely that inflation will occur universally much less evenly. It is too early to say for sure what will be affected. In the short-term I imagine that many forms of entertainment and travel will have little inflation or even deflation. The areas I can see facing the most inflation include tech, especially for communications and entertainment streaming services. The area where the worst inflation could happen is in child care. Most child care centers have closed down. If schools have few openings for children this could amplify the demand. A significant drop in supply and a significant rise in demand is the perfect recipe for inflation.
The largest effect I can see from the Coronavirus is not inflation, but a rise of automation. I do believe automation is not only inevitable, but good for the future. However, if automation rises very quickly and suddenly without a better public education system, automation could leave many potential workers behind. Many people rely on “entry-level” jobs not only to boost their career, but for livelihoods. We cannot expect people to be able to handle jobs which utilize automation easily without extensive education.
The Coronavirus will cause inflation for many of the products and services we need right now including food, communication, and child care. The opposite will happen for many of the industries which are already significantly affected. Unfortunately, every industry has been affected in at least the supply side. It is likely most markets will see some inflation.
There is little we can do to prevent this. But there are ways we can restore the balance when the dust has settled from the Coronavirus. Embracing automation could reverse the effects of lower supply. Automation is not only a method that can raise supply, it can prevent interruptions of supply lines due to pandemics. Furthermore, investments in education could extend the number of people who can keep an automated system running.
This idea is not perfect though. Forget about the future costs for a second. Even if both of these systems and policies can be implemented near perfection, unless we believe that literally everyone would be intellectually capable of learning about advanced systems there will be many people who are left behind with no hope of making a livelihood.
The next few years will determine the fate of the remainder of this century. It is up to you how you want to spend that time and for what.