This week I’ll look at the week’s events within a broad context of several centuries so make sure your seat belt is secure! Two weeks ago I wrote about two reliable indicators of recession, the annual acceleration in unemployment and in real retail sales. Since World War 2, an upward tick in unemployment and a downward movement in real retail sales has always preceded a recession. The unemployment report came out last week ending July 10^th. The acceleration in the unemployed has remained negative, not confirming a high likelihood of a recession in the presence of weak retail sales.

The latest reports on inflation and retail sales were released this week. Although retail sales showed an increase, inflation adjusted retail sales decreased from last year. The deceleration in real retail sales is severe at -26%, indicating the dramatic consumer response to inflation and higher interest rates. Whether economists declare an official recession or not, consumers are feeling the pain and uncertainty. Here is an update on a graph I showed two weeks ago.

(FED, BLS, 2022)

In 2011, we saw a similar pattern – a plunge in retail sales but not an annual rise in the unemployment rate. There was a budget battle, a looming government shutdown and the stock market dropped 20% in anticipation of a recession that did not materialize. In the first quarter of 2012, the stock market began another historic climb, rising 60% in 30 months.

Each week we are reminded of rising food and energy prices but the rise in the cost of housing has been the most dramatic. According to Redfin (2022), a national real estate brokerage, a townhome in LA had a typical mortgage of almost $2400 in February 2021. In June 2022, they estimate a monthly mortgage cost of $4000, making it more expensive to own a townhome than to rent.

In David Hackett Fischer’s (1996) book The Great Wave he wrote about four centuries where prices continued to rise even during economic downturns. He dubbed these periods of sustained inflation “price revolutions.” The approximate dates are the 1200s, 1500s, 1700s, and 1900s (p. 6). The current price revolution began after World War 2, with prices falling only three times. Despite the severe recessions of 1974 and 1982, prices continued to rise.

Price revolutions create class conflict. The prices of life sustaining commodities like food, basic commodities, energy and shelter go up, having a greater impact on people with lower incomes. There are higher returns to property and capital owners. The price movements of manufactured goods are more tame but these benefit those with higher incomes, exacerbating class tensions (p. 86).

According to the Dept of Agriculture (USDA, 2022), the cost of food at home has fallen in only two of the last fifty years – in 2016 and 2017. There have been nine recessions since WW2, but the cost of shelter has fallen in only one year – 2010 (BLS, 2022). In a period of sustained price increase, people need more money. Since 1960, the per person quantity of a broad measure of money called M2 has declined in only two years – 1993 and 1995 (BOG, BEA, 2022).

Fischer identified seven causes of inflation (p. 279-280). Let’s review these in light of the rise in the cost of shelter. The first is an expansion of the money supply. A textbook example is the 1920s in Weimar Germany when people carted money in wheelbarrows to buy groceries. Today the Federal Reserve increases the money supply by lowering interest rates. People demand more credit and the banks increase the money supply. Low mortgage rates increase housing debt and the demand for housing.

A second cause  of inflation is an increase in aggregate demand. An extreme example is the surge in military spending during WW2. In this case we are focused on one sector – housing. According to the Case-Shiller Home Price Index (S&P, 2022), home prices have risen at last 5% each year in the past decade. China’s rapid industrialization since 2000 has elevated global demand for building supplies. A third cause of inflation is a contraction in supply. The pandemic caused supply bottlenecks in the supply of lumber and other building materials. A fourth cause is rising input costs, or “cost push inflation.” This is sometimes associated with rising wages as happened in the 1960s, but real wages in the decade before the pandemic rose only 5%, according to the BLS (2022). In that same ten year period, the costs of building materials rose 26% and jumped 50% in the second quarter of 2021 (BLS, 2022).

A fifth cause of inflation are administered prices, or oligopolies and monopolies created by government action or as part of an international pact. A good example is the alliance of oil exporting countries known as OPEC. This has not been a factor in the latest rise in home prices. A sixth cause is “bubble inflation” like the tulip mania of 1634 or the more recent surge in home prices during the 2000s. People bought homes in the expectation of a rapid rise in home asset values and they paid little attention to the home’s affordability.

The seventh cause of inflation is more applicable to the recent surge in home prices and current Fed policy – inflationary expectations. Anticipating higher prices of goods and services, people buy now, increasing demand and prices. The expectation starts a chain of events that fulfills the expectation. The late 1970s is a good example of this. Anticipating a 25% increase in the price of stereo in the coming year, a consumer would buy now on an installment plan, paying 15-20% interest. They were saving money and getting to use the stereo free for a year! It is that kind of thinking that the Fed wants to contain because those expectations continue to fuel inflation. Each of these inflationary factors adds to the persistence of inflation. Five of the seven causes are clearly present in this latest bout of inflation but the pandemic is the culminating event of decades of inflation.

In previous price revolutions, a crisis event led to a fundamental transformation of society, attitudes and thinking. The plague of 1348 ended the price revolution of the 1200s and early 1300s. In its aftermath,  humanism emerged and the serfdom of the Middle Ages declined. The price revolution of the 1500s was followed by the Thirty Years War and the founding of the nation state that persists to this day. The Age of Enlightenment accompanied the price revolution of the 1700s. Napoleon’s defeat at Waterloo in 1815 marked the beginning of the Modern Age, a revolution in travel, communications and industrial production. Will historians mark this pandemic as the end of the price revolution of the 1900s and the start of a new age?  

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Photo by Silas Baisch on Unsplash

Board of Governors of the Federal Reserve System (US), M2 [M2SL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/M2SL, July 15, 2022.

Federal Reserve Bank of St. Louis, Advance Real Retail and Food Services Sales [RRSFS], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/RRSFS, July 15, 2022.

Fischer, D.H. (1996). The Great Wave. Oxford University Press, NY.

Redfin. (2022, June). Data center. Redfin Real Estate News. Retrieved July 15, 2022, from https://www.redfin.com/news/data-center/. Note: at the bottom of the page is Redfin Monthly Rental Market Data. Enter the market and type of housing you are interested in.

S&P Dow Jones Indices LLC, S&P/Case-Shiller U.S. National Home Price Index [CSUSHPINSA], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CSUSHPINSA, July 15, 2022.

U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items in U.S. City Average [CPIAUCSL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CPIAUCSL, July 15, 2022.

U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: Shelter in U.S. City Average [CUSR0000SAH1], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CUSR0000SAH1, July 15, 2022.

U.S. Bureau of Labor Statistics, Producer Price Index by Industry: Building Material and Supplies Dealers [PCU44414441], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/PCU44414441, July 15, 2022.

U.S. Bureau of Labor Statistics, Employed full time: Median usual weekly real earnings: Wage and salary workers: 16 years and over [LES1252881600Q], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/LES1252881600Q, July 15, 2022.

U.S. Bureau of Labor Statistics, Unemployment Rate [UNRATE], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/UNRATE, July 15, 2022.

U.S. Bureau of Economic Analysis, Population [POPTHM], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/POPTHM, July 15, 2022

USDA. (2022, June 24). Food price outlook. USDA ERS – Food Price Outlook. Retrieved July 15, 2022, from https://www.ers.usda.gov/data-products/food-price-outlook/

S&P Dow Jones Indices LLC, S&P/Case-Shiller U.S. National Home Price Index [CSUSHPINSA], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CSUSHPINSA, July 15, 2022.