With a ballooning U.S. federal budget deficit, a growing national debt, and double digit increases in the money supply, is it time to bet against the dollar?
Topics covered include:
- What is driving the double-digit increases in U.S. home prices
- Why hasn’t inflation spiked in line with rising home prices
- What is the velocity of money and why is it falling
- What are three schools of thought regarding what causes inflation
- What is the average interest rate and maturity schedule of the U.S. national debt
- How the Bank of Amsterdam is an example of how central banks can go insolvent and shut down
- Why the dollar has an exorbitant privilege
Where Did Americans Move in 2020? by Janelle Cammenga—Tax Foundation
Velocity of M2 Money Stock (M2V) Chart—Federal Reserve Bank of St. Louis
Federal Surplus or Deficit [-] as Percent of Gross Domestic Product (FYFSGDA188S) Chart—Federal Reserve Bank of St. Louis
How the CPI measures price change of Owners’ equivalent rent of primary residence (OER) and Rent of primary residence (Rent)—U.S. Bureau of Labor Statistics
Consumer Price Index – March 2021—U.S. Bureau of Labor Statistics
Table 1 (2017 – 2018 Weights). Relative importance of components in the Consumer Price Indexes: U.S. city average, December 2020—U.S. Bureau of Labor Statistics
Inflation and Debt by John H. Cochrane, Fall 2011—National Affairs
US Government Finance: Debt by Dr. Edward Yardeni and Mali Quintana—Yardeni Research, Inc.
Can the Central Bank Alleviate Fiscal Burdens? by Ricardo Reis—London School of Economics and Political Science
BIS Working Papers No 902 An early stablecoin? The Bank of Amsterdam and the governance of money by Jon Frost, Hyun Song Shin, and Peter Wierts—Bank of International Settlements
EXCHANGE ARRANGEMENTS ENTERING THE 21ST CENTURY: WHICH ANCHOR WILL HOLD? by Ethan Ilzetzki, Carmen M. Reinhart, and Kenneth S. Rogoff
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A Complete Guide to Understanding and Protecting Against Inflation
287: What Causes Hyperinflation and How To Prepare For It
295: Federal Reserve Insolvency and Monetizing the National Debt
360: Will the U.S. Default? Debt Ceilings, Government Shutdowns, and the National Debt
382: Is A Famine Next? Food Inflation, Food Riots, and Investing in Commodities and Other Real Things
404: Why Is the U.S. Dollar So Strong? Will It Continue?
416: Your Nation’s National Debt: 5 Things You Need To Know
Welcome to Money For the Rest of Us. This is a personal finance show on money, how it works, how to invest it and how to live without worrying about it. I’m your host, David Stein. Today’s episode—338. It’s titled “Inflation, the national debt, and the U.S. dollar—what could go wrong?”
I’ve done a lot of episodes on inflation, on the national debt, on how exchange rates work, the U.S. dollar, central banks. I keep going back to these themes because there’s some strange things going on, and these are important concepts to understand and to link together as we guide our finances.
There’s a lot of worries out there, and there’s some conundrums, like the fact that housing prices are up double digits, yet inflation in the U.S. as measured by the Consumer Price Index is still less than 3%. That the federal government is issuing trillions and trillions of dollars of new government debt, yet interest rates are rock bottom. That the money supply has increased over 25% in the past year. There’s money flowing everywhere, yet it’s not showing up in inflation measures such as the Consumer Price Index.
In this episode, we’re going to connect those things together and consider what is it that could go wrong, where we could see inflation spike, and the return on Treasury securities be negative.
An Even Hotter Housing Market
Last October I released an episode titled “How to buy in a hot housing market.” I described LaPriel and I’s quest to sell our house in Phoenix and buy one in Tucson. Since then, the housing market has gotten even hotter. The median existing-home price in the U.S. is up over 16% year-over-year. The house we sold in Phoenix Zillow estimates is now worth 10% more than what we sold it for this past November.
Houses around the U.S. are getting multiple offers, many above the listing price, and often the buyer is paying cash. One reason the housing market is so hot is individuals want to move. They have been working at home through the pandemic and realize they either want a bigger house, or they’re not going back to the office, so they want to live in a less expensive locale.
People are leaving high-cost states like California, New York, and New Jersey and moving to less expensive states, or states with better weather—Arizona, South Carolina, Florida, and Idaho. At the same time, there’s been a limited supply of houses. New housing supply was disrupted because of the pandemic, so there were not as many houses started during the early months of the pandemic, and it’s taken builders longer to get back up to speed.
This housing advance is different from the housing bubble in 2006 and 2007. It’s not debt-fueled. Back in 2005, near the top of the bubble, mortgage debt increased 15% year over year. But for the year ending December 2020, home mortgage debt only increased 4.3%, even though housing prices are rising at double-digit rates. That mortgage debt includes both first mortgages, as well as equity lines of credit. There are fewer equity lines of credit now because the tax advantages are not as good as they were, but the overall mortgage debt is only up about 4.3%. And as a result, owners’ equity, the amount of equity that the average homeowner has in the U.S. as a percent of their overall home value is 66%. That’s the highest since 1990.
We can compare that to 2011, the bottom of the housing bust, where the homeowners’ equity was just under half the value of the home. So homeowners own more of their homes. Housing prices have clearly soared. If we look at the median home price relative to the median family income, that home price is about 3.6 times the income. The average is 3.1, and the all-time high was in 2006, at four times.
Housing and Inflation
So here’s something interesting. Home prices are soaring, but if we actually look at inflation, the Consumer Price Index, which measures the cost of living for consumers in the U.S. for the year ending March, it’s only up 2.6%. And the shelter component is only up 1.7%.
The Bureau of Labor Statistics points out that inflation doesn’t calculate the price of houses. They consider that an investment, or capital. They calculate the cost of living in houses. So they do a housing survey asking renters how much they pay for rent. They asked existing homeowners the following question, “If someone were to rent your home today, how much do you think it would rent for monthly, unfurnished and without utilities?” Owners’ equivalent rent, which is that measure asking existing homeowners what they would charge to rent a home today makes up 24% of the Consumer Price Index, whereas renting a primary residence, an apartment or a house has an 8% weight. If home prices continue to go up like they have been, eventually that will translate into higher rents. But there’s always a lag, and that’s why we haven’t seen a huge jump in inflation in the U.S, even though housing prices are soaring.
Another driver of home price increases is the amount of money available. The money supply (M2) which is made up of checking accounts, savings accounts and retail money market funds, has increased 25% in the past year. Its three-year average growth rate is just about 14%.
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