The inflation jitters are upon us. After a disturbingly large hop in the Consumer Price Index (CPI) (up 5.4% for the past 12 months through July), a lot of people are worrying about a return to double-digit inflation, which was vanquished four decades ago.
Not to worry, argues David Waddell, CEO and chief investment strategist at Waddell & Associates. The vast increase in dollars, known as the money supply, or M2, won’t translate to nasty round-robin price escalations. And, in fact, Waddell adds, it will help fuel further economic growth.
All this comes as the Federal Reserve this week holds its annual gathering at Jackson Hole, Wyoming, where interest rate hikes, bond buying tapering, and, yes, inflation, will be huge topics. Fed Chair Jerome Powell thinks the inflation increase is a temporary, economic-reopening, bottleneck phenomenon.
The largest source of M2 growth in 2020 was the Fed’s purchases of Treasury bonds and mortgage-backed securities (MBS). These purchases give the sellers a payment, credited to their bank deposit account. This expands M2. Since March 2020, the Fed’s holdings of Treasury paper and MBS have risen by about $3 trillion. M2 has gone up by about the same amount.
Waddell argued in his recent blog post that those “shouting ‘inflation!’” are missing a crucial fact. While consumer bank accounts certainly have swelled, all the freshly minted money isn’t necessarily moving into wanton consumer spending. “Much of this liquidity gets handed to the banks and then handed right back to the Fed unless there is equal loan demand,” he wrote. Before the pandemic, he noted, banks held $1.7 trillion in deposits with the Fed. And now, they hold $3.8 trillion. “Within the banks themselves,” he continued, “customers stashed $13.4 trillion pre-pandemic compared with $17 trillion today.”
At the same time, the $11 trillion in new dollars are playing a constructive role in the economy, he said—far from fueling a nauseating disco-era circle of escalating prices in anticipation of the next pop in unending inflation. More dollars available nowadays means more growth in gross domestic product (GDP), revenues, earnings, and household net worth.
“Much of that money has been utilized, leading to historic gains in prosperity, but much of it also remains idle in the form of customer deposits with banks, and bank deposits with the central bank,” he wrote. “In short, the US economy has more money supply than money demand (driving down inflation), and more economic demand than economic supply (driving up inflation).”
According to Factset researchers, Waddell observed, S&P 500 companies grew their revenues 24.7% last quarter. Analysts estimate revenue growth of 14% for the third quarter and 11% for the fourth. In the recently concluded second quarter, 87% of S&P members exceeded revenue forecasts by an average margin of 4.9%, both results setting records, he said.
For the full year, Waddell reported, “analysts project 14.3% revenue growth overall.” Upshot: Companies are seeing sales run rates four times higher than normal.
None of this, he concluded, sounds too bad. Certainly, just the opposite.