I get a sense that the investment world has begun to discount the possibility of a significant increase in inflation over the next 1-3 years. I think it’s a pretty big mistake. The housing market appears to have bottomed out and with that, loan demand should start increasing. With a down housing market no longer dragging loan demand to the floor, what’s left to hold back inflation?
The US Federal government continues to create a massive amount of new money each year with large budget deficits. These act as a fiscal stimulus that has been roughly around 8% – 10% of GDP over the past few years. That’s a lot of new money!
Federal Reserve policies are loose. That wasn’t really much of a problem with a weak housing market dragging down loan demand, but now that housing is rebounding, I’d worry a bit more about this. The Feds totally ignored the last bubble, which started around 1998 and was exacerbated greatly by Fed policies in 2001 and 2002. What actually worries me more isn’t the “loose Fed policies” so much as the dedication to keep those policies loose until certain (perhaps unreasonable) conditions are met, such as 6.5% unemployment.
So based on all of this, I’ve become more concerned about rising inflation. I’ve been watching a few key indicators over the past several months. M2 money supply is among them. I feel like our high M2 money supply growth rate is being virtually ignored by the investment community right now, which is a mistake.