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Further Thoughts On Inflation and Asset Prices

Ok, I’m going to attempt to condense my previous post down to a few sentences, so my question is clear enough:

Inflation is too much money chasing too few goods. This causes prices to rise, including that of money, which needs to now include the cost of inflation in the interest rates charged to borrow. In turn then, higher interest rates drive down the prices of the things which normally require financing to purchase, things such as houses and businesses.

Is this a correct analysis? Does this mean that inflation has an inverse effect on the price of land and businesses? Does it therefore make sense to hoard cash, and make a purchase in land or a business knowing that the debt will be refinancable when the inflationary time ends, and that the asset purchased should also rise in value with the decrease in interest rates? What is the proper way to time such an investment? Should one wait until interest rates exceed 10%?

I think I may post this as a question in the LinkedIn forums and see what kind of response I get.

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This entry was posted on Monday, July 13th, 2009 at 11:37 am and is filed under News & Politics. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.

 

One Response to “Further Thoughts On Inflation and Asset Prices”

  wellbasically Says:
July 13th, 2009 at 3:15 pm

The hole in your analysis is that in monetary inflation, prices for different goods change at different times. For instance, prices of commodities change faster than prices for houses. This is because for a commodity like corn, the contract between buyer and seller is executed very quickly, while the contract on the land is executed over 30 years.

A farmer growing corn or a sheik drilling oil will be very happy and comparatively wealthier in the early part of an inflation. However as you noted with interest rates, the lenders will not want to be hurt by the change in the value of the dollar and so will raise interest rates to cover that risk. So eventually it catches up to the farmer, too.

If you have 30 years, such as during the 70s, you would make a 10 times profit on buying property. However that was only if the dollar didn’t deflate, but you can’t predict that, because it’s all done by the Fed and who knows what’s going on there. In addition, you can’t predict what’s going to happen to the place where you’re buying property, because during severe inflation and recession, social systems go haywire and who knows what the political result is. You could be buying property in the next Bridgeport, Connecticut.

  
 

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