Inflation: Cost of Spitfire vs. F-35. How the Fed is Fighting Inflation



Even normal inflation rates have significant impact on our finances. For the price of a F-35 you could have bought 576 Spitfires. And that's after adjusting for inflation. So why the camparison? Simply because I thought the above photo was awesome and the 1 to 576 airfram ratio.


Who's not concerned about inflation right now? It's hard to ignore. But the Federal Reserve is trying to systematically bring it under control.


Last Wednesday’s long-anticipated announcement by the Federal Reserve that the key Fed funds rate would increase by 25 basis points and the accompanying statement by Chairman Powell had the immediate impact of reassuring the markets. St. Patrick’s Day may not have brought pots of gold, but after thirteen no-good, very bad weeks for the S&P 500, we’ll take a push back into positive territory.


Will it last? Given the invasion of Ukraine, the impact of sanctions, the downstream effect on supply chains and food supply, and the geopolitical uncertainty unleashed by Russia’s aggression, the Fed’s job in fighting domestic inflation is much harder now.


We walk through the Fed’s move and Powell’s language, the impact of the rate increase, and what investors can do to prepare their portfolios and budgets.


Powell and His Megaphone

The word used to describe the pronouncements of previous Fed Chairmen was usually “inscrutable.” The goal was to lightly gesture towards the Fed’s intentions, to avoid moving markets too much. Chairman Powell has dispensed with that, and the Fed is now all caps, all the time. And it’s working.


Powell wants the market to fully understand the data inputs it is reviewing, the process, and the timing of both rate increases and decreasing the Fed’s almost $9 trillion balance sheet.


On Wednesday, the Federal Reserve increased the key short-term rate by 25 basis points or one-quarter of one percentage point. This puts the rate at 0.25%-0.50% and marks the rate’s first increase since 2018. The Fed also indicated that the rate will likely increase by 25 basis point increments at each of the six remaining Fed meetings this year.


With a total of seven increases in 2022, and three additional increases in 2023, the Fed is moving up the pace of increases to combat inflation that it now feels will also increase this year before declining as tighter money supply takes effect.


In his remarks, Powell indicated that reducing the Fed’s balance sheet will likely commence in May. Selling off assets held by the Federal Reserve – these are U.S. Treasuries and agency debt and agency mortgage-backed securities – has the effect of raising long-term interest rates. As the Fed puts additional supply into the markets, prices drop, and yields increase. Bond yields and prices have an inverse relationship. This process is called “Quantitative Tightening.”


The New Projections for Inflation and GDP

The Fed prefers to use the personal consumption expenditure (PCE) index to measure inflation instead of the CPI index. The new projection that the Fed is targeting for PCE inflation for 2022 is 4.1%. For some context, in December 2021 – not even three months ago – that number was 2.7%. At the same time, growth expectations have been revised downward. The FOMC cited the implications of the ongoing situation in Ukraine as the reason for the slowdown in growth. The new GDP estimate is for 2.8% growth in 2022, down from the 4.0% estimated in December 2021.


The Wage-Price Spiral

Nobody talks about spirals like they’re a good thing, and the wage-price one is no exception. It refers to a situation that leads to persistent inflation instead of inflation that can be brought under control with monetary policy. Higher prices in a strong labor market mean that workers have the strength to demand higher wages, which in turn increases prices further.


Chairman Powell said that the Fed doesn’t see evidence that this is the case and instead referred to the labor situation as a “misalignment” of labor market supply and demand. In support of this, he cited areas of the economy that saw spikes in wage growth last year but are now normalizing.


What Can Investors Do?

Inflation is here for the medium-term, and adjusting portfolios and budgets makes sense. On the investment side, curbing bond duration or moving to floating rate instruments or laddered maturities can help mitigate interest rate risk. Focusing on equities with pricing power can also help dampen the impact of inflation on margins and, therefore stock prices.


On the personal side, credit card rates will likely bounce up drastically. Pay attention to your balances and prioritize reducing them as quickly as possible. This is usually the most expensive debt, so carry as little as possible. If you can, now is the time to take advantage of a zero-interest rate credit card that will lock in the rate for 12-14 months. This can help you pay down the debt without racking up significant interest expenses.


If you’re close to buying a home or refinancing, pushing towards a close is a good idea. Mortgage rates have already increased but likely have room to run.


If you lease your car and the lease is coming due, consider buying it. Your lease contract specifies a residual value that may be below what the car would bring in the resale market. Used car prices have moderated a bit but are still higher, and supply chain disruptions are still driving new car prices up. Buying out your lease and financing or reselling (and paying the capital gains tax) may work for your situation.


Gas prices went from over $130 a barrel to back below $100 in a matter of days. This volatility will probably continue, as it will take time for oil companies to ramp up production. Real relief at the gas pumps may be delayed, so think about all the old standbys to reduce consumption – check your tires, get your oil changed, and be thoughtful about trips.


The Bottom Line

The Fed has been transparent and thoughtful about the process as it moves forward in fighting inflation and keeping the economy growing. The realistic nature of the timeline and the impact can be helpful as investors review their personal and investment situations.



*Content adapted from the Seven Group LLC, Copyright © 2021 Seven Group, LLC


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