Thirty years have passed since we’ve had a significant
bout of inflation in this country. At
the peak of this inflation battle my money market account earned 21 percent
interest! That was the good side of
inflation. The bad side of inflation was
banks pretty much stopped lending and the only lending getting done was seller
financed or other creative forms of hard money lending.
For the past 30 years we’ve seen interest rates slowly
decline on commercial real estate from 12 percent to now 4 percent or less. I believe the days of ever lower interest
rates are coming to an end. In fact, I
believe the days of double digit inflation is inevitable and I believe it’s
just around the corner.
But before I go further on what I believe is in store
for us as a nation, let’s review what inflation is and what causes it.
What
is inflation?
Inflation is an increase in the price of goods and
services not due to growing demand or shrinking supply for those goods and
services (which also affects price) but due instead to the dollar losing its
buying power.
There is a difference between real price increases and
inflation. The price of oil could be
going up because we are running out of easy-to-find oil, or demand has gone up
because China’s rapidly growing economy is demanding more oil. That’s not inflation; that’s a real price
increase due to the forces of supply and demand.
What
causes the dollar to lose buying power?
The value of money is affected by supply and
demand. If there are too many dollars
available their value falls. When the
money supply is dramatically expanded in an economy with no or slow growth, as
is happening today, the value of the dollar will eventually decline. In short, too many dollars (too much supply),
relative to the slow growth of the economy (too little demand), leads to the
falling value of the dollar, a.k.a, inflation.
Therefore, real cause of inflation is increasing the money supply beyond
what is needed to keep up with economic growth.
What
is causing the money supply to expand so rapidly?
The Federal Reserve in an attempt to rescue the economy
began in early 2009 purchasing $2 trillion in U.S. mortgage and treasury bonds
with printed money. The technical term
for these big bond purchases is “quantitative easing” or QE. Then in November 2010 the Fed began more bond
purchases (QE2), adding an additional $600 billion to the nation’s money supply
over the next year. Again the goal of
the money printing is to stimulate the economy back to health.
How
much has the money supply increased in recent years?
In 2008, before QE, the U.S. money supply totaled $800
billion. Today, the money supply is $2.6
trillion or more than triple what it was in 2008. This is a stunningly large increase. Nothing like this has ever occurred before in
the United States.
Why
aren’t we experiencing inflation now?
A paper written in 1999 by Ben Bernanke, the Fed
chairman, et.al., examined past periods of inflation and determined there is
about a two-year lag between increasing the money supply and the onset of
inflation. It can be delayed further if
the Fed takes other actions to create more lag time, which I’m sure they are
trying to do. It can be delayed but it
can’t be prevented.
Exactly
when will inflation begin?
Good question.
The truth is no one knows when it will begin in earnest. The authors of Aftershock: Protect Yourself and Profit in the Next Global Financial
Meltdown believe that significant inflation will begin in the 2013-2015
range.
What
does this mean for commercial real estate?
We live in uncertain times. Many factors lie outside of our control to
influence. As property owners refinancing
our real estate is one area of our lives that we can be proactive and take
control of the situation by locking in low interest rate, long-term
financing. Those who do will be the big
winners.
Source: Aftershock: Protect Yourself
and Profit in the Next Global Financial Meltdown by David Wiedemer, PhD,
Robert Wiedemer & Cindy Spitzer; John Wiley & Sons, Inc., 2011.
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