The Federal government and many individuals have been on a deficit spending spree.
Economists generally agree that more deficit spending by government increases inflation. Individual’s deficit spending, through a seemingly endless increase in credit card balances, also contributes to inflationary forces.
There is no deterministic model to determine how government (and household) budget deficits drive inflation because there are a number of factors, including the velocity of money, that come into play.
However, looked at from a relatively simplistic level, deficit spending increases demand beyond what can be supported by a “pay-as-you-go” budgetary system. Increasing demand, without a commensurate increase in supply, can lead to higher prices.
Investors should consider the implications of the Federal Reserve Board seeking to moderate demand through higher interest rates, while the administration and individuals are providing additional liquidity, through deficit spending, that supports increases in demand. All of this is likely to make managing the fixed income part of your portfolio more complicated.
All comments and suggestions are welcome.
Walter J. Kirchberger CFA