How Much Longer Can We "Hide" The Inflation?

[00:00:00] Speaker 1: Late last week, the official Consumer Price Index inflation figure rose to 4.2% year-over-year, the highest annualized rate seen since the post-COVID price surge of 2022. This, by itself, was not a great result, even though these official numbers really just confirmed what most people already knew. Things are getting more expensive, but what they didn't capture is what is likely to still be coming down the pipe. Last month, the Producer Price Index, which tracks the basket of items that businesses use to provide goods and services to consumers, saw its largest single increase in the last decade, with the only exception of a single month at the height of post-pandemic inflation. Now, the reasons are pretty obvious. Fuel prices trickle through to almost everything that needs to be transported, sprinkle in persistent tariff uncertainty, market consolidation, and a lot of resources being redirected towards data center build-outs instead of providing service infrastructure to regular people and businesses. Now, eventually, these companies will either be forced to accept lower profit or just pass these higher prices along to consumers, which will ultimately be a decision made for them by how much more those consumers can financially bear. Again, not exactly surprising stuff anymore. And if anything, the cost-of-living crisis we are currently experiencing is arguably not as bad as wider economic conditions might suggest, for now at least. But the implications of these numbers are worth understanding because they are likely to mean a lot more than just yet even higher prices. This kind of inflation is putting a new Fed in a very difficult position. The logical move would be to raise interest rates. But that runs the risks of sweeping out the last leg holding up the economy, which is the stock market. A stock market that is already gearing up to digest three mega IPOs in the next few months. The other options involve either sacrificing the American consumer, the American worker, or the American dollar. The other unfortunate reality worth keeping in mind is that no matter what we do with our financial levers, we can't print more oil. And any price increases from here are going to be on top of a cost-of-living level that was already forcing a lot of people to go without. [00:02:09] Speaker 2: Spending all of that money on housing, food, child care, transportation, health, and taxes, there's nothing left over. And it's hard to imagine that if I'm making $120,000, I'm barely making it. The numbers at the gas pumps keep going up. 539, 559, and 579. This is ridiculous. We went from threes to fives. [00:02:30] Speaker 1: Domestically, we've got about 216 million barrels of gasoline available to us. That seems like a lot, but 190 million barrels is considered critical. Okay, so inflation has clearly been creeping up. And that's on top of levels well above what would be considered optimal. But for now at least, there are, or at least were, a few things that have been shielding us from the full effects of just how unaffordable things have become. The first of those sacrificial shields is that we have been burning through inventories. In early 2025, companies stocked up on anything and everything they could keep in their warehouses, mostly in an attempt to get ahead of tariff disruptions. And where possible, they have just been using those stockpiles to keep prices competitive for as long as they can. In the first quarter of 2025 alone, businesses added around $172 billion worth of inventory, which according to government GDP data, was the largest quarterly inventory buildup outside of the pandemic recovery in records going back to the 1940s. This obviously doesn't apply to perishables that can't be stored indefinitely. But specifically, things like component parts and other goods were piled up in bulk. Small businesses didn't have a warehouse to do this, so mostly this has been a benefit to larger retailers and B2B suppliers. A big box retailer could fill distribution centers with a year's worth of patio furniture before the tariffs landed. The local warehouse buying through a distributor got a few extra weeks stock at best, which was kind of part of the plan. For big companies, this was an opportunity to run anti-competitive pricing without actually running anti-competitive pricing. Because in theory, it wasn't their fault that their smaller market rivals didn't order supplies before a 30% tax was slapped on everything. Obviously, this isn't great, but for consumers and end producers, it at the very least delayed price increases. When the tariffs hit, Goldman Sachs estimated that companies were only passing along about a fifth of the cost increases to consumers. A year later, their estimates put that figure closer to three quarters, and still rising. Researchers at the Fed went a step further last month and described what we are seeing now as a full pass-through. So that cushion is mostly spent. We still don't 100% know what is happening with tariffs either. The Supreme Court struck down the biggest batch of them in February. But the White House has still been going back and forth on new ways to get around these rulings and re-implement something in its place. For now, since the first round of tariff rules weren't legally enforceable, the government will, at some point, have to pay back around $166 billion in refunds to about 330,000 importers, money that is unlikely to find its way back to consumers. This refund process has been incredibly slow and administratively difficult, which is again disproportionately impacting smaller businesses that don't have the time or the manpower to wait for this cash. There was also a lot of speculation around these rulings, with certain companies buying the rights to tariff refunds before they were confirmed. They would go to businesses and pay them some money to write up a contract that would entitle them to tariff refunds if and when they were ever handed back. One trade attorney at Foley and Lardner reported getting hundreds of emails a day offering to buy his client's refund claims, with offers that started around $0.20 on the dollar. So yeah, apparently this is a whole industry now. A lot of desperate small businesses took those pretty crappy deals just to get some money back to make payroll. The investors themselves have made 400% returns off this desperation within the span of just a few months, which is clearly how the free market ought to be working. Now arguably, these investment firms still accepted the risks that these tariffs may never be paid back, in which case they would lose all the money they paid to these businesses. But it probably didn't help that the actual architect of the tariff plan in the first place also had direct interest in an investment firm betting against the legality of those very same tariffs. Now even outside of particularly egregious examples like that, this financialization of government tools is making it particularly difficult for smaller businesses to compete. But the point here is that once inventories run dry, we will be more directly exposed to the increased prices to actually make or import stuff, which at the moment is climbing about one and a half times as fast as the headline inflation number. Now the reason why this pressure on small businesses is such a big deal is because larger companies aren't going to cover this gap forever. They have accepted tighter margins for now, because they realize that there is only so much consumers can bear. But if smaller businesses are pushed out of these markets, there won't be much competition left stopping major retailers from passing along these input price shocks and then some. So yeah, this inventory drawdown has been softening the inflationary blow for the last 12 months, and that's the first layer of armor that has more or less been used up. But within the last 100 days in particular, there has been one inventory cash that we have been drawing on harder than ever, and that's our strategic petroleum reserve. So it's time to learn how many works to find out how much longer we can hide away the real inflation problem. This video is sponsored by Odoo. Odoo is the all-in-one business management platform that pulls sales, accounting, inventory, manufacturing, e-commerce, and CRM into a single connected system, instead of forcing you to juggle five different tools that do not talk to each other. What makes Odoo work is how seamlessly it ties everything together. You only install the apps you actually need, and they share data automatically. We use Odoo ourselves, our How Many Works library runs entirely on Odoo, and having everything in one dashboard has made the day-to-day so much smoother. It's also intuitive and highly customizable, which makes it a good fit for small to medium-sized businesses that have limited technical expertise and want software that adapts to how they work instead of the other way around. And because Odoo automates the routine stuff, invoicing, restock alerts, follow-ups, you spend less time doing admin or stitching tools together, and more time actually running your business. If you want to see how Odoo can streamline your own business, you can book a free meeting with an Odoo expert or try the full platform free for 15 days with no credit card required, or even keep any single app free for life. Check it out using my link in the description. Okay, so companies' private stockpiles have quietly been absorbing a lot of the price pressure for the last year, but the one doing the heaviest lifting right now belongs to the federal government. The Strategic Petroleum Reserve is quite literally a huge pool of oil kept in four separate underground caves, which is in theory made for times like this. If we need a stabilized supply, and by extension prices, during unstable times, we can draw down these reserves to put more oil into the market and avoid huge swings. It's pretty simple, but it won't last forever. According to the Department of Energy's own numbers, the reserve held about 411 million barrels at the start of the year. As of last week, it was down to around 349 million, sitting at under just half of its theoretical maximum of 711 million barrels, after weeks of the largest drawdowns in its history. The rate at which we have been drawing oil from, it would be fine if the conflict in Iran really did only last a few weeks, but we are now more than three months in, and despite recent peace talks, there is still a long way to go before things get back to normal. The US has committed 172 million barrels to the coordinated international release, and completing that commitment would leave the reserve at its lowest level since 1982, directly following the most severe oil crisis in history, which for context, took place over two years to get to where we are now just after 100 days. Now, another technical but important detail is that we can't draw these reserves down to zero. To maintain the cavern integrity of the locations where we actually keep all of this oil, we need to keep about 150 million barrels in there at an absolute minimum. So in plain English, at our current rate of drawdown, we are about 10 weeks away from hitting a hard limit on this supply cushion. If this runs out, I truly cannot emphasize how we are. Prices will flow through a lot more of the economy than direct costs at the pump. Almost everything in America is moved with diesel engines. According to the American Trucking Associations, trucks alone carried almost three quarters of all domestic freight tonnage in 2024. For consumer prices, one of the sharpest recent movers has been the cost of air travel, which was in turn caused by everything we covered in last week's video. Jet fuel used in a 737 and diesel used in a truck or a locomotive are actually surprisingly similar fuels. They are both middle distillates pulled from the same part of the barrel. So, the increased cost of shipping yourself to Cancun is roughly analogous to the increased costs of shipping anything else everywhere else. Jet fuel prices have already doubled over the last year according to EIA price data. Regular diesel is up almost 60%. Maersk, the world's second largest shipping company, says the conflict is adding around $500 million a month to its costs, and that one carrier alone moves about 14% of everything you buy. The International Energy Agency has called this the largest supply disruption in the history of the global oil market, with around 14 million barrels a day still shut in. If the strategic reserve here in America and other similar reserves around the world can no longer make up the difference, there is nothing left standing between us and bearing the full force of that disruption. Now, technically, America is a net fossil fuel exporter. And the old team at Micro did a great video on why that unfortunately does not really matter by actually tracing every barrel of oil that goes through our country, so I will leave a link to that video in the description. But the most important TLDR is that almost all of our fossil fuels outside of the strategic reserve belong to private companies that are just going to sell to the highest bidder no matter where in the world they are. With global supplies this short, Bloomberg now describes American barrels as the supplier of last resort for everyone else, which keeps our prices pinned to the global crisis price regardless of how much we produce. So fuel costs became everything costs. I know this isn't exactly new news, but transport and energy isn't the only limited resource suppliers are currently contending with. And even if the war in Iran theoretically ends tomorrow in its entirety with no ongoing consequences, which is probably wishful thinking to put it mildly, there are still additional headwinds against prices. At the same time as we are dealing with energy constraints, a lot of skilled tradesmen, energy components, materials, and government attention has been tied up in building data centers. Now we have already spoken endlessly about these projects and their, uh, logical payoff, but the point here is that they are a huge strain on limited components like, well, everything from ram, trucks, ram trucks, tradesmen, concrete, rebar, commercial building equipment, and most crucially, electrical infrastructure with a particular choke point being electrical transformers. These little metal boxes could provide power to local energy grids, or a real factory, both of which would increase the supply of essential services or consumer goods respectively. Or they could sit in a warehouse waiting for data centers to go online. And at the moment, there is just more money supporting the latter option. Now to play devil's advocate a bit here, if these projects do eventually deliver the productivity miracle they are promising, some of this spending will potentially have a deflationary impact. But that is an optimistic outcome that may not be passed to consumers, won't be for the more essential components of CPI, like, you know, food and energy, and is unlikely to pan out for some time now, if at all. In the meantime, your transformer sitting in a warehouse does nothing for your power build this year. Local utilities, for example, are basically paying ram prices to do routine maintenance on their grids. Utilities report that transformers, which do need to be replaced as part of ongoing grid maintenance, now cost four to six times what they did before 2022, with waiting lists that can stretch out to four years. And all of that is getting passed along to everybody, even if there are no data centers directly on your grid competing for that precious supply of electrons. The same kind of thing is happening for skilled tradesmen. Data center projects are paying electricians around a 32% premium over traditional construction work, with specialized electricians in Northern Virginia and Texas commanding up to $280,000 a year. Obviously, that is an amazing opportunity for those guys, and nobody is going to begrudge them for cashing in while they can. But the businesses building houses and factories are having to compete on price for the same people, a cost that will eventually need to be passed along through higher housing or goods costs respectively. The country is already short around 300,000 electricians, and in Texas, home builders say competition for them is delaying housing construction by a couple of months. Now all of this is obviously not great, but one of the biggest problems with fixing it is that the cure is going to hurt almost as much as the illness. The logical first step would be to end the war in Iran, and at the very least provide clarity on tariffs, but we have tried that about 30 times now. The most recent second signing of the Treaty of Versailles is certainly the most noteworthy step towards bringing the war to a close, albeit with significant concessions from America. But it should also be noted that even if this peace deal does stick this time, Hormuz tolls may still continue. They will just be called environmental fees instead of tolls, which, it must be emphasized, is exactly the same thing, although maybe it's better for Iran's ESG credentials. So in the meantime, while all of that is still getting worked out, this is going to fall on the Fed that really only has two tools at their disposal: sucking money out of circulation or raising the interest rates. But these have their own problems. If we raise rates, that means investors can get better returns by just parking their money somewhere safe, which might tempt a few more people to cash out on an already very frothy investment market. Why risk being on the wrong side of a bubble when the 30-year treasury will pay you over 5%, effectively guaranteed, more than it has paid at any point since 2007? Maybe the market will offer better returns, but even the most optimistic investors are seeing the warning signs. This is especially risky right now because there's going to be an even greater demand for cash as three IPOs and a major capital raise come from SpaceX, OpenAI, Anthropic, and Google. SpaceX, which listed this week, raised $75 billion at a $1.75 trillion valuation, which made it the largest IPO in history. OpenAI confidentially filed for its own IPO just days before that listing, at a valuation of over $850 billion, and Anthropic has already filed for its own at over a trillion. Google has also announced plans to raise up to $80 billion in new equity, which is kind of the thing that mega caps basically never do, but it's been forced into continue funding its data center expansion. These companies are all going to be holding their hand out at the same time as the government is holding its hand out offering better rates than almost any time in the past 20 years for the privilege. If the Fed raises rates or pulls money out of the market, there is going to be even less cash to go around amongst these hungry, hungry hippos. This is why the market reacted so badly to this week's inflation announcement. In theory, higher inflation should actually be good for the market, because people will naturally want to put their money into real businesses as a hedge against the declining value of the dollar. But, because there is so much demand for cash, any sign that interest rates are going to tempt people to lock that cash up is really scary. An even more perverse sign of this same paradox is that the market is now really afraid of good jobs reports. Last Friday, payrolls came in at almost double what forecasters expected, which was the third month in a row the number has beaten consensus. Stocks and bonds both sold off, because traders immediately started pricing in rate hikes. In a normal economy, lots of people getting new jobs should be a good sign for businesses like the ones listed on the stock market, right? More people with jobs means money to spend, as well as being an indication that companies are confident enough to hire. But, we aren't a normal market at the moment. Valuations are stretched so far that it would take decades of good consumer spending to pay back a lot of the values we are seeing, which is such a long time horizon that it has basically become irrelevant. So, what is actually happening is that good jobs numbers remove the one excuse that the Fed could hold up to lower rates, or at least leave them alone. The Fed has a triple mandate to maintain stable prices, stable rates, and maximum employment. If employment is apparently really good and prices are going up, then in theory they have no choice but to raise interest rates. The brand new Fed chair, Kevin Warsh, who was only sworn in a few weeks ago, completed his first ever policy meeting in the big chair last week with exactly that combination sitting on the table. Now, we have already made another video on why those job numbers may not actually be all they really seem in reality. So, I will leave a link to that below instead of going over it all again. But the point is that as long as the job numbers look good, at least on paper, and the inflation numbers look bad, interest rates are likely to increase. But okay, this is about inflation, not the stock market. So, for the sake of this video, who cares? Current stocks are overwhelmingly owned by wealthy people who can theoretically afford the loss. According to the Fed's own distributional accounts, the wealthiest 10% of households hold around 87% of household-owned corporate equities, and the top 1% alone holds about half. However, those wealthy people are the ones currently doing a large share of the spending. By Moody's estimates, the top 10% of earners now account for almost half of all consumer spending, which is the highest share in records going back to 1989. A booming stock market makes these people feel good, and when they see big numbers in their Schwab account, they are more likely to splurge on goods and services that provide opportunities to every other household. But if green line does not go up, that could knock out the last leg that has been holding up our economy for a long time now. Both companies and wealthy households would stop spending, on capex and luxuries respectively, eliminating the biggest growth sectors of the economy, potentially causing an employment crisis just as bad if not worse than the cost of living crisis. Okay, so what if we just let inflation run hot? Well, that has its problems too, even beyond just higher prices. The US dollar is already under stress as the global reserve currency, something that buys us extraordinary privilege in international markets, both for imports and for debt. The dollar share of global foreign exchange reserves has slipped to its lowest level in roughly three decades of IMF records, and the dollar index briefly broke below 97 earlier this year, back to lows it hadn't seen in years, before the war sent everything scrambling back into dollars. If our dollar inflates away, we will start to lose that privilege. Now, a cheaper dollar does make American exports more competitive, which is why some people in Washington have openly argued for one. But that math works a lot better when one of our biggest imports isn't suddenly around 40% more expensive than it was a year ago. Also, we are still a massive net importer of goods and services that will get relatively more expensive if our dollar gets weaker, compounding the problem of prices on shelves. In the short term, if wages are adjusted upwards, it may help smooth things over for a little while. But realistically, it will just leave wage earners further behind on already significant cost of living pressures. Long term, it would significantly undermine the easy capital we have been blessed with over the last 80 years. Our debt has always been a burden to carry, and keeping it manageable relies on being able to grow faster than the debt does while simultaneously doing everything we can to carry the weight responsibly. Right now, that debt is just shy of $40 trillion, and it grew by about $3 trillion over the past year. The economy underneath it managed less than two. The interest alone is costing around $1 trillion a year. At the same time, we are doing a lot of things that are shifting that weight around while simultaneously shooting ourselves in both feet. Now, one way of hope in these numbers is that out of everything, cars are getting cheaper. New vehicle prices fell again in this report, as manufacturers have undermined their own market in some of the dumbest ways possible. So go and watch this video next to find out how. And don't forget to like and subscribe to keep on learning how money works.