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Inflation is a Problem Today, but Does Stagflation Lurk Around the Corner?

Updated: Nov 22, 2021

Inflation has caused concern for many people in our industry. What's worse is what happens if the economic rebound experienced early this year grinds to a halt because of the effects of ineffective government policies to control the Delta variant of Covid-19? Well, then we would have "stagflation" -- stagnated growth coupled with inflationary prices. A nightmare scenario for any consumer-facing industry, let alone ours.

The last time stagflation plagued the global economy was during the 1970s. In that instance, stagflation was ultimately tamed by a combination of tight monetary controls -- meaning higher interest rates -- and economic stimulus via reductions in personal income taxes. But it took nearly a decade to reign in the effects of stagflation in what proved to be a slow, painful process.

Today, stagflation remains a possible economic outcome of the global pandemic. Still, at the moment, global growth remains strong as economies reopen from the doldrums of 2020. Unfortunately, however, that growth has come with a jolt of higher inflation. In turn, for central banks around the world, inflation raises a red flag of caution for economies struggling to recover from the ill effects of the pandemic. And there’s always the potential for governments to ease back on their public spending.

A Balancing Act

It becomes a bit of a balancing act for central banks. Inflation could be tamed with higher interest rates (in effect, the cost of borrowing money goes up). But this comes with the risk of squashing economic recovery as companies put off expansion plans due to the higher interest rates to borrow money. Hence, there's a reluctance on the central banks to put on the breaks just yet. Moreover, despite rising global inflation, the problem is heavily tilted towards the U.S. economy.

In a recent article published by Erik Norland, Executive Director and Senior Economist of derivates exchange CME Group, entitled, "Surging Inflation is a U.S. Phenomenon, Not a Global One," he says that "surging U.S. inflation has outpaced inflation in Europe, China and elsewhere, as the rate hit a 13-year high of 5.4% in June and July." And Norland goes on to explain that "rising U.S. inflation may be the result of divergent employment benefits or a consumer spending boom fueled by the government's fiscal response to the pandemic."

The following table illustrates his points. Even if we exclude volatile food and energy costs, U.S. inflation continues to run higher than much of the rest of the world.

The U.S. government's aggressive approach to unemployment may explain why U.S. inflation remains high compared to other countries and regions such as Europe. When the U.S. economy tanked in 2020, the Biden administration pumped literally trillions of dollars into the economy. Which, in turn, followed broadly expansionary policies of the Trump Administration that included tax cuts and direct government stimulus. In short: many American citizens received direct government subsidies.

Indeed, when unemployment spiked in 2020, there was a lot of money put directly into the pockets of average Americans. Not surprisingly, consumer spending soared on a wide range of consumer goods. With extra money in their pockets, Americans went spending. And to the extent that global supply chains have been playing catch up ever since.

See what I mean? U.S. GDP has soared since the depths of the pandemic-induced economy of 2020. But soaring demand comes with added costs, namely price inflation. Inflation is insidious in many ways. Often, it originates with tight labor markets. However, high raw material prices can also contribute to more significant overall inflation. For example, look at cotton prices:

Higher consumer demand can also affect inflation. Government stimulus plays a role here, along with pent-up consumer demand for stuff. Never underestimate consumer psychology. Hence, supply and demand are imbalanced.

Additionally, there's also the psychology of our industry. U.S. apparel imports are up sharply from pandemic lows. Still, imports have really taken off over the past few months as brands and retailers accelerated purchases. They did so to avoid a repeat of 2020 when shelves stood bare or were stock with out-of-season merchandise. What's added to the urgency is the spreading Delta variant of the Covid virus. It's a wild card in many ways.

A Puzzling Development

Although increased demand for goods has resulted in higher prices in the U.S. economy, wholesale import prices have lagged in apparel. Why is that?

First, let's look at the data:

What's puzzling about these data is that apparel import prices are moving in the exact opposite direction from overall consumer inflation. In the United States, annualized inflation is running at 5.4%, while imported apparel prices have fallen by 6.5%. Many possible explanations range from a stronger dollar to negotiated price reductions between U.S. buyers and manufacturers in Asia and elsewhere that took place at the height of the pandemic in 2020 that are only now being released in the import statistics.

Inflated Price Deflation?

In any case, for our industry, price deflation has been the rule; inflation hasn't entered the industry lexicon in years. Higher prices for clothing? That's crazy. Lower prices have been central to the industry's ability to move more significant quantities of clothing. Take away low prices, then an essential pillar of fast fashion falls away. Current import prices continue to support this assertion.

However, there's a further point to consider. Retail apparel prices have jumped in 2021. Check out this graph:

When measured against declines in import prices, it appears that brands and retailers have pocketed the difference. Although I doubt many brands would agree with that as their struggles during the pandemic have been well documented. Nevertheless, this price gap requires further explanation. Perhaps a topic for a future article? Hmmm ...

How Long Will Inflation Affect the Economy?

So, we're left with a problem: will U.S. inflation stay with us for a while -- or even accelerate -- or will it prove to be temporary? Much will depend upon the Delta variant of the Covid virus, government policies, and consumer demand.

Suppose government policies succeed in broader vaccinations than witnessed to date. In that case, the healthier society will be, but this will result in even more demand for products. In that case, strap in for a wild, inflation-filled ride.

On the other hand, the U.S. is already struggling with the Delta variant, but other countries are as well. This leaves us with the prospect of an uneven economic recovery from the pandemic and now the follow-on variant. Does this mean depressed economic times are ahead? Not necessarily. But the potential for stagflation does increase -- and a return to the 1970s!

Originally published in on August 15, 2021.

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