Premise: What if cap-ex, and wages, and/or commodity prices, and interest rates increase, but pricing power (and PPI and CPI) doesn’t?
We know that businesses lack pricing power. We see it in the PPI and CPI numbers. Imagine, because of labor needs by large and fast growing companies, like Amazon and Apple, and because of a ramp-up in cap-ex by many companies, that wage pressures cause wage inflation in an economy where businesses have little pricing power. Businesses would have to raise wages, but not prices. This would be an economic disaster.
But it gets worse.
If higher wages (i.e. inflation) cause higher short term and long term interest rates, causing business expenses (borrowing costs) to go higher, while wages are also going higher, while lack of pricing power persists … what a total disaster this would be.
Even cap-ex, which could cause a tightening of labor markets, does not guarantee that the company making cap-ex will make more margin- or even have more sales. The new tax law, and, in particular, the cap-ex benefits of that law, providing for accelerated cap-ex depreciation, can lead to tighter labor markets- without more profits for the many companies operating sans wholesale and retail pricing power.
Earning can grow from buybacks … for public companies. Remember- private businesses don’t buyback stock. Most companies are not public companies and cannot manipulate or manufacture earnings. So, under this scenario- how will their earnings grow to offset all these new expenses? The FANG stocks may keep growing under this scenario … but what about everyone else that has to pay higher wages and a higher cost of capital?
Cap-ex investments that don’t convert to business earnings, with higher prices and more sales, is a bad thing for everyone … except, perhaps, Amazon, whose sales will grow at the expense of everyone else.
Let’s not forget, cap-ex spending has gained tax benefits- but it is still spending. It is money out of a companies coffers. Tax benefits or not, it is an expense. Even if a company refers to it as an “investment” … a rose by any other name …
Spending- or investments- are real, and happen in “real time”. Any earning that might result are mere “projections”.
The bottom line: Any inflation in commodities and/or in wages that come about in general, or pursuant to cap-ex, that is not accompanied by pricing power and PPI and CPI inflation, is a worse-case scenario. The additional input costs (of materials and/or wages) must have a way to be offset by all parties in the chain of commerce. It’s economics 101.
- For my part, I don’t expect any significant wage inflation. But, these are things to keep in mind as stock and real estate markets climb higher and higher, and as new tax benefits encourage cap-ex. Remember that higher interest rates compress equity multiples and can stunt home prices.
- Higher interest rates due to commodity and material costs from significant cap-ex without wage inflation, could end the housing boom in an instant.
- Higher wages could have a positive “trickle-up” effect on business earnings due to increased consumer spending. It would depend on how and where consumers spend their additional dollars. Arguably, this is the kind of inflationary outcome for which Congress, the Fed, and The White House are hoping and contemplating.
- The reversal of Q/E, and/or an increase in China’s bond selling, could be the cause of higher yields in an economy lacking pricing power. Bond price declines could occur while there is no commodity and no wage or price inflation- or earnings growth. This would, of course, lead to recession.
Neil S. Siskind, Esq., President
The Siskind Law Firm
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The Neil S. Siskind Nature Preserve is over 8 acres of environmentally-pristine waterfront land in a magnificent setting along New York’s majestic Hudson River. The Preserve includes a variety of species of animal and plant life, and is a precious example of the thoughtful maintenance of New York’s priceless open spaces. The land’s uses are limited to outdoor recreation such as hiking and climbing, and the study of ecology, nature and land use. The Neil S. Siskind Nature Preserve allows for the intelligent contemplation of our valuable natural resources and the most effective ways to maximize them and keep them protected.
Neil Siskind, Founder, “National Fatherhood Day” – March 29th
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Neil Siskind’s Volunteer Work:
– Memorial Sloan Kettering Cancer Center, Volunteer
– Memorial Sloan Kettering Cancer Center, My Fundraiser- Help Neil Siskindhelp children with cancer to be more comfortable: http://mskcc.convio.net/site/TR?px=3182108&fr_id=2632&pg=personal
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– DonorsChoose.org- Donate to one of my needy public classrooms: http://www.donorschoose.org/NeilSiskindGiving
– Champion Children– We seek to inspire people through stories of children who have overcome challenges: http://siskindlawfirm.com/neil-siskind-champion-children/
Neil Siskind’s Pro Bono Work:
– Saving Senior Citizens- Protecting New York’s senior citizens from fraud and financial abuse www.savingseniorcitizens.com
– Senior FreeStart Business– Pro Bono: We seek to help put senior citizens in the right direction so that they can face the challenges of the modern economy: http://siskindlawfirm.com/free-start-business/
– Veteran FreeStart Business– Pro Bono: We seek to help put Iraq and Afghanistan war veterans in the right direction so that they can face the challenges of the modern economy: http://siskindlawfirm.com/free-start-business/
– In development: The Neil S. Siskind School of Hope: A free school to teach inner-city youths the skills of entrepreneurship and importance of economic self-sufficiency.
Neil Siskind’s Government Work:
– Suffolk County District Attorney’s Office, Boston, MA, 1994, Intern
– Office of Senator Christopher J. Dodd, Newington, CT, 1992, Intern
– Hartford County Department of Probation, Hartford, CT, 1991, Intern
Neil Siskind’s Community Assistance:
Financed & operated a legal clinic providing low-cost legal services to struggling Long Islanders during the recession to help clients resolve debt, organize finances, and launch new businesses.
Neil Siskind’s Professional Curriculum Vitae: http://neilsiskind.com/
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