Production shortages, shipment bottlenecks and pent-up demand factors created by the pandemic have contributed to the rapid rise in prices of durable goods.Brandon Bell/Getty Images
Sam Sivarajan is a wealth management and fintech executive with a doctorate in behavioural finance. He is also the author of Money Talks: Lessons from Canada’s Wealthiest.
For many of us, inflation was like disco and bell-bottoms – existing only as suppressed memories or hiding shamefully in our closets. Now surging prices, a labour shortage and supply-chain bottlenecks are pummelling consumer sentiment levels to the lowest level in a decade.
These three factors are connected. Inflation is simply a result of demand for goods outpacing their supply. Prices rise until demand and supply are again in balance. Witness the U.S. producer price index, a measure of the change in prices received by producers for their products, was up 9.7 per cent for 2021 from virtually no change in 2020.
Over the past two years, governments around the world have fought the COVID-19 pandemic with policies that have simultaneously put money in the pockets of consumers – such as wage subsidies – while reducing the flow of raw materials and goods through lockdowns, factory shutdowns and travel restrictions. As a result, the demand for goods has outstripped the supply.
This is the situation that Canadians, and much of the rest of the world, found themselves in at the end of 2021. Are these inflationary trends over? Unfortunately, we are not at the end yet. Inflation is a social, not a physical, phenomenon. What does this mean? If we all thought that we will get spring-like weather next week, the weather is unlikely to take notice and change. That’s a physical occurrence. However, if we all think prices will continue to rise in 2022, evidence suggests that such expectations may affect prices.
How do our beliefs about inflation cause inflation? It starts with the gap between demand and supply, as the result of policies designed to deal with the short-term social and economic impact of the pandemic. Spending more time at home, and worried that prices will be higher later in the year, people move up their spending, further increasing demand for durable goods, such as homes, cars, appliances, but also construction materials and renovation contractors. Production shortages, shipment bottlenecks and pent-up demand factors created by the pandemic have contributed to the rapid rise in prices of durable goods. However, the prices of daily goods have also risen strongly in 2021 – gas prices rose by 30 per cent, and food prices increased by 3 per cent to 5 per cent and are expected to rise by another 5 per cent to 7 per cent in 2022, while oil prices are expected to also rise over the course of the year.
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Add to that mix the so-called Great Resignation, where people voluntarily leave jobs (in the U.S. private sector this hit an all-time high of 3.4 per cent in November, with no indication of slowing down). This work force reduction leaves employers with the choice of either reducing production (worsening the supply of goods problem) or paying higher wages to retain staff (passing on higher prices to consumers). Either way, the continuing Great Resignation is likely to feed the inflation machine in 2022. Potentially, there is even an aggravating feedback loop – as inflation increases, employees expect a wage increase. But wage increases typically lag inflation, both in terms of amount and timing. Wage increases may be too little, too late to stop more people from resigning, adding fuel to the inflation fire.
What does this mean for the average Canadian consumer and investor? There may not be much the average Canadian can do about food or gas prices, but deferring discretionary purchases – like durable goods, big-ticket purchases and services – until the pandemic-related inflationary pressures ease may be an option. That, of course, has an impact for investors – defensive stocks in the consumer non-discretionary sectors (food and utilities, for example) may be more insulated from market volatility in the short-run than stocks in the discretionary sectors.
Bottom line, consumers and investors should understand that beliefs drive expectations, which drive financial markets. So, inflation will likely be with us for the first part of 2022. The good news is that as the world returns to “normal,” these pressure factors should ease. As always, working to a longer-term plan, where possible, will provide the best overall results – for a consumer or an investor.
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