Caution: Hot

Hey Influence Traders,

Happy Presidents Day … Week!

My kids are off from school, which means distractions at home (sometimes I do miss going to an office).

Speaking of presidents (or former presidents) and pandemonium, it looks like the side-show circus in D.C. might have finally come to an end …

Hey, I almost wrote that with a straight face!

Seriously, with Trump Impeachment Part Deux wrapped up, perhaps D.C. will now get down to business.

Time will tell if that is a good thing.

I’m from the Government and I’m Here to Help

As Ronald Reagan said, there are no more terrifying words in the English language.

It looks like the Biden administration is going to leverage its Hill majority to push through the $1.9 trillion spending package with or without Republican support.

This will be followed by $2-3 trillion in infrastructure spending — and the economy has already seen trillions in stimulus the past year.

All of this money pouring into the economy raises fears of it overheating and causing inflation.

Administration officials dismissed the notion, however, rationalizing that it is relief and not stimulus.

Stimulus vs. Inflation Concerns

Biden’s $1.9 trillion stimulus plan would be the second largest in U.S. history.

Only 2020’s CARES Act was bigger, but the impact was arguably less since it came at the start of the pandemic and in the depths of the recession.

But this round will go into an economy that’s already bounced much of the way back.

Biden, his advisors and Federal Reserve Chair Jerome Powell have brushed aside inflation concerns.

But the fiscal and monetary policies that have been implemented and are being discussed will almost certainly cause inflation to pick up.

It’s OK to Overheat A Little …

The Federal Reserve targets a 2% inflation rate but will allow that rate to go higher if it facilitates maximum employment.

Almost 10 million fewer Americans were working last month than in February 2020.

Janet Yellen wants to get unemployment down to 4% and is willing to use aggressive policy to do so.

The administration is calling this a goal of a “high-pressure economy” that pulls low-income workers back into employment.

But Overheating Too Much = Inflation

Even some on the left are voicing concerns. Lawrence Summers, a former Treasury secretary and top adviser in the Clinton and Obama administrations, stated that Biden’s plans could stir up a whirlwind of rising prices.

Inflation impacts the relative valuation of current and future profits and thus stock prices.

Inflation fears can cause changes in investment focus, such as sector rotations, and there are reasons to fear inflation.

Household Spending Will Rise

When spending increases, prices tend to follow.

Reopening the U.S. and world economies will permit spending.

Throughout the pandemic, many people have been saving money and U.S. household savings deposits are high – currently above $11.1 billion.

Source: Federal Reserve Bank of St. Louis

All of that savings will drive demand when the economy reopens.

Demand Squared

Massive stimulus packages will increase demand.

Some economists are worried that $1.9 trillion of stimulus will put cash in the hands of folks who don’t really need it and they will pour that money into financial markets.

It will take time for the manufacture and supply chain of goods to catch up with the increased demand.

Demand Cubed – Let It Run Hot

As I said, the Fed has committed to keeping interest rates low, even if inflation starts to appear.

Accommodative monetary policy suppresses the incentive to save and lowers the burden of having debt.

Larry Summers recently opined that extra spending combined with a successful vaccine rollout could result in “an economy that is literally on fire.”

Perfect Fourth – Infrastructure is on the Way

Following on the heels of the stimulus spending will be Biden’s $2-3 trillion infrastructure plan.

While that was lining up to be a mid-to-late 2021 initiative, the power outages across the U.S. from this week’s snow will be used to highlight the need for new infrastructure and energy policy.

Impact on Investments

Despite the Fed’s wish to be accommodating, at some point inflation will force it to act and begin to raise interest rates

Rate hikes generally impact the value of future profits.

Profits impact stock prices.

Monetary policy causes massive ripples. It’s time to start watching them.

That’s enough good news –enjoy the rest of your week!

Cutting Through the Noise for You,

Frank

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