How Presidential Policy Choices will Affect Inflation

The average inflation (annual change in prices) has been about three percent since the end of World War II. There have been occasional spikes, but we got used to very low inflation since the Great Financial Crisis of 2008, averaging about 1.5 percent from 2008 to 2020.

COVID changed that. With the economy shutting down in 2020, the government poured money into the economy in order to try to prevent greater disruption than what occurred. By getting money to businesses, they could keep workers on the payroll so that the economic damage wouldn’t be worse than it already was. Unfortunately, global supply chains collapsed, meaning that the products that would normally be purchased with these emergency relief funds weren’t always available.

The result was a classic case of too much money chasing too few goods, and some policy mistakes made things worse. The Federal Reserve kept interest rates too low (which essentially encourages people to borrow money, making more money available in the economy) for too long, and the Biden Administration followed up on a Trump proposal to send a ton of stimulus payments to taxpayers in 2021, adding more fuel to the inflation fire.

We’ve finally got inflation back down to a little over three percent per year. So it begs the question, what would the two Presidential candidates’ policies do to inflation?

Weak Dollar. Donald Trump wants to reduce the value of the dollar in order to make US exports more attractive to foreign buyers. The problem with this is that it also makes imported goods more expensive for US consumers. With the US economy growing faster than many of those around the world, there is already upward pressure on the value of the dollar, so this may not even be possible. But a weaker dollar would benefit the roughly four percent of American workers in manufacturing jobs while making almost everything more expensive for the other 96 percent of us.

Tariffs. Both candidates want to maintain tariffs on China, but Trump has proposed increasing tariffs on all foreign imports. Tariffs do make foreign goods more expensive, but it’s not clear that they make domestically produce goods cheaper. This is because the higher import prices just give domestic producers room to raise prices without fear of losing market share to competitors. Furthermore, there are some goods (like semiconductors) which are almost entirely made overseas, so a massive universal tariff will only raise prices across the board.

Tax Cuts. Donald Trump wants to extend most of the tax cuts he signed into law in 2017. Biden wants to extend most of the tax cuts, except for those on the highest earning taxpayers. Forget the ballooning deficit for a moment (the tax cuts did NOT “pay for themselves” as promised). Cutting taxes is a way to stimulate the economy by paying for government services with borrowed (instead of taxed) money. The government isn’t likely to cut its spending, so the net effect of extending the tax cuts will be upward pressure on inflation.

Labor force. This one is tricky. Legal immigration added about four million workers over the last couple of years, greatly reducing the upward pressure wages would normally have on inflation. Trumps proposals to greatly reduce legal immigration and expel immigrant workers already here would massively reduce the labor force at a time when unemployment is near the lowest it’s ever been. Removing millions of workers from the labor force would put upward pressure on wages which businesses would then pass through to consumers as higher prices. Currently, the US labor force is only growing at about 0.5 percent per year. If we want the economy to grow faster, we’re going to need more workers from overseas. These workers also pay into programs like Social Security and Medicare, and study after study shows they are a net positive to the economy.

Vox.com put it quite succinctly: “Slash the dollar’s value, insulate US producers from competition, juice demand with tax cuts, and then throttle supply with mass deportation, and prices are bound to soar.” If inflation is an issue for you, then consider the policies that each candidate is proposing.

This column is prepared by Rick Brooks, CFA®, CFP®. Brooks is Director/Investment Management with Blankinship & Foster, LLC, a wealth advisory firm specializing in financial planning and investment management for people preparing for retirement. Brooks can be reached at (858) 755-5166, or by email at rbrooks@bfadvisors.com.

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