Inflation, some thoughts

The general electorate is in the dark and unrealistic in their perceptions. I try to explain some common pain points in rational terms. You may not be happy, but it is where we are. Deal with it.

It seems you can’t read any politics news without being inundated by anecdotes about how the electorate is really pissed off about inflation and they blame President Biden.

Of course, inflation is (largely) under control, and while there right blames it on the profligate stimulus that Biden signed into law early in his term¹, the reality is somewhat more nuanced.

Let’s do a deeper dive. First, I should say that I am not an economist either by training or by profession, but I do work as a product manager, and my education is a hard science (physics), so I have a good grasp of business, and am very analytical by nature.

The Pandemic, AKA Covid 19, was a worldwide disruptor. Overnight, we saw governments closing down, halting almost all economic activity, as an attempt to prevent the straining healthcare systems from collapsing. This was the trigger for production delays, and a cascading shock to logistics and supply chains. We had spent about 50 years outsourcing, seeking lower costs, and increased profitability. This meant that much of the widgets we buy are no longer built near you, but instead in places that are better suited to that work (read: cheaper labor, and local infrastructure) and then shipped to you using these gargantuan container ships:

This is (or was) the ultimate in efficiency, because while Americans will say they want to buy American, and support American workers and labor, the reality is that they really want cheaper shit.

Now, I can’t fault this thinking when my last guitar purchase was a Harley Benton from Germany, who sources it at a manufacturer in Indonesia. I gotta tell you that the quality, fit and finish of that $350 axe is on par with or better than a Corona built Fender Stratocaster that costs 5X that. The truth is that these manufacturing hubs are good.

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The less good is that these goods are loaded on to ships and shipped throughout the world. Covid fucked that shit up good. Real good.

Factories were shuttered. China in particular took a 0-Covid approach, and shutdown so hard it makes the actions taken here in the US seem trivial.

But, since Americans couldn’t go to clubs, movies, on vacations, or to restaurants, they suddenly had money in their pockets. Netflix viewership rose, Amazon and all other retailers saw massive hikes in sales. People were replacing experiences with merchandise. Peloton went ballistic, as Gyms were no-go places, so they couldn’t keep their $3K shitty stationary bikes in stock.

Sidebar: This led to tech companies (Amazon, Netflix, Meta, Google, etc) to way overhire, assuming that this was the new normal. Alas, once vaccines became commonplace, and the terror of Covid abated, people went back to drinking in bars, going to sporting events, and touching grass. This over hiring has led to some truly heinous layoffs in the tech ecosystem.

My own company — a stodgy old-line tech player — turned over nearly 60% of our staff since the start of the pandemic. That is a lot of churn, even if we didn’t over hire.

But, these production/logistics dislocations took time to fix, and that led to short stock. When people want stuff, and it’s not instantly available, the suppliers realize they have pricing power, and suddenly, they begin raising prices.

And they did. A lot. They got away with it because people wanted shit, the shit was in short supply, and if you really wanted it, you would wince and pay whatever asking price it was to scratch that itch (or need). Plus, you weren’t traveling or eating out, so you had the scratch to buy that shit.

This led to annualized inflation rate of nearly 10%.

The last time we were anywhere near that was at the end of the Carter administration, and the early Reagan administration. Truth is that most people alive today do not remember that shitshow. My parents sold their house in Sunnyvale and bought a bigger house in west San Jose and their mortgage was 16% APR. Yeah, that sucked.

Considering that since the GFC of 2008/09 interest rates have hovered around 0%². With people accepting that to get inflation under control, the rates had to rise. Today 30 year fixed rate mortgages are about 7%, less than half of that stagflation era³.

Additionally, there have been some issues in agriculture, particularly diseases in poultry production, and dislocations caused by other factors (not least of which is the demonization of undocumented immigrants who often do the hard work of picking produce, working in meat packing firms, and tending to dairies. That is hard work, at low pay, and Americans are not lining up to do those jobs⁴. )

So, things cost more. That sucks. But, there are a couple of signs of life.

First, wages, particularly at the bottom of the economy — the lowest paid workers — are rising more rapidly than they have in more than half a century. The problem is the middle class doesn’t experience or share this to the same degree. My belief is that they are getting ahead, but they don’t feel like they are. And this can be boiled down to two things I have observed.

First - Eating Out

No, get your mind out of the gutter.

If you go to fast food, a meal that used to cost $9 (burger, fries, soda) now is likely to cost $15 or more. This is a big change.

But if you eat at fast casual (Chili’s, TGI Fridays, Applebees, etc) you will be gobsmacked. It can be impossible to find an entree for less than $20, and if you have one of those famously weak Chili’s margaritas, you can easily get to $40 per person. If you have a family of 4, you will drop probably a C-note and a Jackson for a meal.

Why?

Well, I worked my way through college in the back of the house at a variety of restaurants. There were two classes of workers. The back of the house was dominated by immigrant laborers, who almost universally were undocumented (or “illegals” as the R’s prefer). They were paid shit wages. Like often they got minimum wage, and back then that was $3.45 an hour. Even in the early 80’s that was not enough to live on, but they did, and they sent a lot of that money home to their families in Mexico. The front of the house was mostly young Americans, who didn't support families, but relied on tips. Sure some of them were adults (long out of school) but most of them were high schoolers and college students.

The few fine dining establishments I worked at, some of the waiters could make high 5 figures in tips annually, so the wages weren’t an issue⁵.

But Covid shut down restaurants for almost 6 months, and while stimulus and unemployment benefits helped tide these workers over, it gave them the time and impetus to look for better work. And they found it. I can assure you that just about any server or hostess at a busy restaurant can become a medical office manager, or other role easy-peasy, and they will get better money, more benefits, and hours that don’t suck⁶.

You hear it when the Chamber of Commerce crowd gripes about how they can’t find employees. What they really mean is that we can’t staff our shitty jobs with underpaid people who are trapped because we don’t give them enough flexibility to look for better work.

Yeah, I say this often: If your business relies on scads of underpaid people doing thankless jobs without benefits, you deserve to go bankrupt.

And as customers, we ought to recognize that these jobs are valuable, and if we want to do a quick dinner at Olive Garden on Tuesday night, it isn’t going to be a bargain.

So, dining out is more expensive. And it is a good thing.

Second - Cars

Look, we ‘muricans love our cars. A lot of people trade up every 2-3 years, and carrying a car note is just par for the course.

The ZIRP era kept more than home loans cheap, it also made it a lot less expensive to finance a fancy set of wheels. And car prices rose. A lot.

As a product manager, I can confirm that pricing is part science, and part psychology. If you have any doubt about this, think about how you evaluate the cost of gasoline. My step father would drive across town to save a nickel a gallon (or about $0.75 a tank).

But cars are somewhat different. Since the vast majority of car buyers finance it, they may be aware of the total price, but what they really care about is the monthly payment.

This is why car loans have gone from 4 year terms in the 1980, to often 6 or more years now. That is to keep the monthly payments palatable.

In the decade+ of ZIRP, the car finance world was replete with 0% financing for well qualified buyers, but just about everybody could get a loan less than 3%.

And people didn’t care. They would look at the monthly payment, and if they were comfortable with that, they would sign on the line that was dotted and drive off in their new wheels⁷.

This led car makers to supersize their offers, and now it is not uncommon to see a Ford F150 in some trim levels being well north of $100K sticker priced.

Add to that the supply chain issues, and prices have spiraled out of control. Now that car loans are often at 7 or 8% APR, the monthly payment on a 72 month, RAM 1500 TRX that lists for $105K (yeah, they are often that high) will make you cry.

Even leases are out of reach for many people.

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The future

Look, I would love to say that Biden could snap his fingers and make this go away. But it doesn’t work that way.

If he sent the goons to Fed Chairman Jerome Powell and made him set the overnight rate back to 0%, then inflation will come roaring back, leading to a cycle of pay rises, and price rises⁸.

But, when Focus Group participants and “man-on-the-street” interviews point out that people want inflation dealt with, they don’t mean get it back to 2% — the goal of the FED — instead they want prices to return to the before time. Before Covid, before supply chain disruptions, before the chaos.

That just ain’t gonna happen.

And we really shouldn’t want that to happen. That would be the start of a deflationary spiral, and let me tell you that is really fucking bad. People put off making purchases, because if they hold out, the price will go down (so they get more for their money). That means that inventories grow, and production is curtailed, leading to job losses, and ultimately the cycle repeats, and you lose a decade, or two, or three (like Japan in the 90’s through the late 2010’s) and that is very very bad.

But most Americans do not understand this, and are unwilling to take the time to realize why that cat is out of the bag.

As for the economy, Biden and the Fed has handled this just about perfectly. Sure a little less of that Build Back Better stimulus would have eased the inflationary pressure slightly, but even zeroing that out wouldn’t fix it. Ditto on the pause of Student Debt repayments (and the rather paltry forgiveness that was done).

There is some unwinding of our reliance on Chinese manufacturing (that is a good thing) but those jobs and manufacturing are moving to other venues. Vietnam, India, and Mexico are some of the biggest beneficiaries.

Of course, this all might lead to Trump being elected in November. But regardless of what the MAGA hordes think, Trump’s economy wasn’t that good, and he will be unable to even return to that status quo without doing serious damage.

Much of the pain we are experiencing today is tied to the decade plus of Zero Interest Rate Policies. We can’t go back to that, the conditions that led to it, and the artificial factors that hid the downsides for that long cannot be replicated.

Alas, I do not expect the general electorate to understand, and thus, Trump has a one in two chance of winning in November.

God help us.

(I also will write about the Electric Vehicle transition, the current stall, and some side effects that will sound counterintuitive, but are inevitable. Product Management 101 for the win!)

1. Yes, there was a big tranche of stimulus in the build back better plan, but that wasn’t the main factor.

2. Technically, this is the Fed overnight rate. But from 2009 through early 2022 is largely considered the Zero Interest Rate Policy era (or ZIRP).

3. For the record, my house in South San Jose, a 1400 sqft SFH is financed with a 2.785% fixed rate loan.

4. The irony is this lack of seasonal labor has led (mainly Republican) some states to reduce restrictions on child labor to keep these operations running. Yeah, we really want to go back to the start of the 20th century where young children were working on factory floors, kill floors, and doing really dangerous jobs. That really is American Exceptionalism at its finest, am I right?

5. Two additional points. In many states, there is a “Tipped Employee” minimum wage that remains $2.13 an hour. That barely covered (int he 80’s) the payroll taxes. And that was before credit cards became the prime payment option. Back then you “estimated” your tips based on the tab total and reported that to the IRS. That meant that most of that cash went into pockets, the IRS being none the wiser. Today, cash is rarely used, and the POS systems will report all your tips, so you get taxed far more aggressively.

6. True story, whenever I tell people that I worked for years as a chef, they always wonder why I gave that up. I tell them that working six 12 hours days a week, often until past midnight, and never getting a weekend day off, for about $35K (that was the MOST I ever made in those years) is really not a glamorous job

7. I wrote about why you don’t see cheap bare-bones pickup trucks in this post on “Business Acumen” if you are interested in the sausage making of product management

8. And sure, if Trump is elected, he might fire Powell and install a lackey to do just that, but inflation will go bonkers then too. And then he would probably do the next worse thing, institute price controls. Nixon did this in the early 70’s. It did not go well…