Inflation, It Gets Into Everything
As St. Paul observed, some things get everywhere. And influence everything they contact. As any baker knows, it just takes a little yeast (leaven) to cause an entire loaf of bread to rise.
Inflation is like that. It corrupts everything it touches. After having just lived through the last 12 months when Inflation raged at over 9%. It makes any comparisons to what came before almost impossible.
I realized that we were watching this “inflation phenomena” when five top banks announced their quarterly earnings on Friday. And the response from Wall Street was overwhelming. It was more like the halcyon days of the dot com stocks, or more recently, the go-go times of the big tech giants.
Wall Street was reacting to these staid old banks as if they were introducing the latest technological breakthrough. It was as if Steve Jobs had returned and delivered his famous new product introduction. It was apparent that Wall Street wanted some good news, and the banks certainly delivered.
There was old US Bancorp, whose stock climbed 5% on the day, troubled Wells Fargo, up 6%, white shoes Bank of New York Mellon up 7%, Boston’s own State Street Bank up nearly 10%, and leading the way Citigroup up, just for the day, 13%. That used to be a pretty good quarterly performance for Citigroup. Citigroup, after all, is lucky to be with us today. In 2008, this was the Bank that nearly went out during the Great Financial Crisis.
But on Friday, one and all strode through the caverns of lower Manhattan like the conquering heroes. Masters of all they surveyed.
How could this be? I thought. These are the self-same banks that struggled through most of the new century. Some, as noted, nearly passed from the financial scene. As bad loans seemed sure to sink them. And it was only the direct action by the Federal Reserve that saved these institutions from the economic graveyard.
And then I realized, of course: Inflation.
Of all the markets in the world, banks have the most elastic pricing model. The Fed boosts interest rates, and in an instant, the Banks adjust their loan charge. Add in a couple of service fees, perhaps a little loss reserve, and abracadabra, and the Bank has not only beaten Inflation. If they’re smart, they’ve profited from it.
A group of banks will now be able to expand their top-line revenue simply by outpacing this roaring Inflation. Yes, their cost of funds will rise. But with good management top line should grow even faster. That, I believe, is what Wall Street saw on Friday.
It’s all a result of that leaven we’re talking about: Inflation. And Inflation, at least so far, is pushing bank revenue higher by allowing banks to increase their margins.
The Banks aren’t the only ones who will benefit from enhanced pricing power. Nearly every business you can name is busy raising prices and increasing the revenue on their existing inventory. From the hardware store to the supermarket, prices are going up. And this will increase those businesses’ income.
Knowing that Inflation raises everything, I thought we better look at how the overall economy is doing. It ought to be percolating about now. With higher prices all around and using the Banks as our model, we should see a robust GDP.
So, I looked over the Atlanta Federal Reserve’s current GPD Now Model estimate.
Surprise, the GDP Now Model currently estimates that our economy is contracting at -1 1/2%. That was a real surprise. Maybe Inflation isn’t the unmixed blessing that we thought it was?
And here’s one last thing to consider.
Just remember, Inflation raises all prices. Without Inflation, this Economic Contraction (GDP) would be even worse! (Gulp)
The following ten days begin a series of Central Bank interest rate decisions.
We begin this week with the Bank of Japan’s decision on rates. We expect no change here.
But then the fireworks begin. On Thursday, the European Central Bank will likely raise interest rates for the first time since 2016. Hiking rates marks a clear departure from the ECB’s current monetary policy. And although the amount is not large, most analysts look for only a 25 basis point rise. It’s the direction that’s important. The ECB’s higher interest rate is a clear move toward monetary tightening as it joins the US Federal Reserve in Tightening.
And speaking of the Federal Reserve, next Wednesday, the Fed will announce its decision on interest rates. Everyone has a guess on just how much the Fed will hike rates. Current thinking is that rates will climb to 2 1/2% and bring us right back to where we were just before the Economic Lock-Downs began.
Today we will get the latest report from the National Association of Home Builders on their Housing Index. Expected to show little change from last month.
In earnings today, we’ve just had the fourth and final report from the nation’s largest banks. Bank of America has just reported results and is currently trading lower.
We’ve had three other financial services companies report, with Charles Schwab, Goldman Sachs, and Synchrony Financial trading higher on solid earnings.
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