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September 21, 2011

Bi-flation is Our New Economic Reality

Over the last several meetings, the Federal Reserve has stated that inflation is not a problem with our economy. Last week, the government released inflation data which showed that consumer prices, including food and fuel, had increased by 3.8% over the past 12 months. This is the highest year over year increase since the financial crisis began. However, there are indications that the inflation situation is worse.

Bi-flation occurs when the pricing mechanisms within consumer products and services are moving in two different directions. Some products see an increase in prices, while others are decreasing in price. When these forces work against each other, it becomes difficult to determine what the real inflation situation is (because the CPI simply averages out these forces).

In our current situation, food and fuel are driving prices up. Oil is still at elevated levels at $90 per barrel and gasoline is over $3 per gallon. Food prices are increasing because of increased corn and wheat prices (a combination of the weak dollar and low supply seem to be the driving forces) and Americans are feeling these increases when they visit the grocery store and fill up at the gas pump.

Meanwhile, on the other side of the spectrum, housing prices and other asset prices continue to fall. While low housing costs may help Americans pay the mortgage, it hurts our economy because the consumer has less access to credit. Previous to the recession, consumers used home equity as a source of consumer spending. Now, with high foreclosures, and falling home prices, consumers see less of an ability to spend their money.

In addition to this, the dollar printing scheme, which has created high fuel prices and contributed to high food prices, has created a different dimension of problems. Companies, seeing increased costs with no increase in demand, have not only been unable to hire, but may need to reduce their workforce in order to decrease their costs. Bi-flation could actually be a driving force behind why jobless claims remain over 400,000 per week and the unemployment rate consistently over 9%.

The next time the Federal Reserve says that the inflation rate is manageable, track down the current producer price index and consumer price index figures. From there, take a breakdown of each component of those measurements, and determine which components have a direct impact on your life. Average these rates together and you will have a more accurate reflection of what your personal inflation rate is. Is it higher or lower than headline CPI? I would bet on higher.

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