If you think November is the month when you get to slow down, reflect a bit, and put the finishing touches on your plans and budgets for the coming year, think again. The past few weeks were packed with extraordinary events that could shape the economic landscape and the market demand for various plastics products for months to come.
So before you transition into holiday mode and try to prepare for the cold, dark winter, let us review the things we just collectively witnessed.
From both an industry and overall economics perspective, I think the most noteworthy things in the past few weeks were the Fed's unprecedented pace of interest rate hikes to a level not seen since 2008, the peak in the growth rate of U.S. inflation, the unrelenting strength in the labor market and the lack of drama resulting from the midterm elections.
There were other things this month that I do not think will have a large effect on my forecast for the U.S. economy and the plastics industry next year, but they may be indicators of longer-term, relevant trends, so I cannot ignore them. These include California's aggressive new policies pertaining to plastics packaging, the disintegration of the crypto exchange FTX, the possible implosion of Twitter, the substantial decline in the value of the U.S. dollar and the Russian retreat in Ukraine. And lest I forget, somebody won the largest lottery jackpot ever, and we had a lunar eclipse.
As always, the trick is to separate the signal from the noise, so for this column I will discuss the shift in momentum in the data on inflation. Political polls indicate this was the biggest issue for voters in the recent election. And based on the markets' reaction to the release of the Consumer Price Index for October — the stock market posted its biggest one-day rally in years — it was also a big deal for the financial sector.
At its core, inflation is a monetary issue. The term "inflation" means the amount of currency in the system is "inflated." The amount of goods and services produced in an economy has an upper bound, but there is no such inherent restraint on the government's ability to "create" money. And in 2021, the U.S. printed a lot of extra money.
On the chart is a rate of change curve derived from the monthly data for the U.S. money supply (M2). Just to review, M2 is the amount of money in circulation plus the amount in checking accounts, savings accounts and money market funds. In short, it is the amount of readily available cash in the economy.
Between early 2020 and early 2021, the U.S. government inflated the amount of cash in the system (the money supply) by more than 25 percent. That statistic is not a misprint, and nothing like this has ever come close to happening before. Using the Paycheck Protection Program and the stimulus checks, the U.S. Department of the Treasury pumped massive amounts of liquidity into the system in an effort to prevent a systemic collapse of the economy due to the government-mandated economic shutdown.
It is safe to say that the economy did not collapse, but an infusion of cash that massive was bound to have undesirable side effects. Keep in mind that the amount of cash in the system is not declining just because the rate of change curve is heading down. Until the graph gets below the zero line, the downward trajectory on the chart just means that the growth rate in the money supply is decelerating when compared with last year. There is still a huge amount of liquidity running through the economy. The space under the money supply curve represents a huge chunk of cash that is buoying prices.
The chart also includes a graph of the monthly growth rate for the Consumer Price Index. I have charted only the last decade, but if you look further back, the historical data indicates that peaks in the growth rate of the money supply typically exhibit a lead-time of five or six quarters before the corresponding peaks in the curve for the CPI.
This graph has peaked, and now the goal is to make sure it falls back to acceptable levels close to 2 percent. Nobody is exactly sure how much they will need to raise interest rates to accomplish this mission. Even if everything goes as planned, I do not expect the CPI curve to get down to normal levels for another five or six quarters.
Contrary to the expressed views of the electorate, it will not be the Biden administration nor the control of the House of Representatives flipping to the Republicans nor the control of the Senate staying with the Democrats that will determine the trajectory of the CPI curve — but the Fed will have a say. They are determined to get inflation back down to 2 percent, and the only question is, Will they have to induce a recession to accomplish this mission?
The primary reason for the recent peak in the CPI curve is improvement in the nation's supply chain. The latest data pertaining to employment and retail sales indicates that the Fed's actions are not yet having a widespread effect on overall demand. History suggests it will take as long as a year before the aggressive hikes in the Fed's interest rate bear down fully on the employment and consumer spending data.
Nobody is quite sure how this will all turn out, and there is a plausible chance the economy will not go into recession next year. Call it a coin flip, a 50-50 chance, but it will be close. If the overall economy gets that close to a recession, it is likely many sectors of the economy go ahead and slip into a sustained period of negative growth. The housing sector is already in recession. The auto sector may avoid a sustained downturn since it was unable to register a good cycle of growth this year.
This means there may be a substantial portion of the plastics industry that experiences negative growth next year, while other segments will continue to expand but at a slower rate than this year. Resins and other materials prices will likely come down, but processors' margins will also likely contract as the liquidity bubble is pushed down by the Fed and overall consumer demand slows.