Inflation is Bringing Back the K-Shaped Economy
(Bloomberg Opinion) -- Remember back in 2020 when everyone was talking about a K-shaped economic recovery? White-collar workers who could do their jobs from home stayed employed, while lower-income service workers got laid off by the millions with uncertain prospects. Over time, a mix of fiscal relief, vaccines and other adaptive measures led to a strong rebound and helped close that gap.
Until now. Stagflationary trends in the housing market combined with the energy shock stemming from war in Ukraine has created a new kind of K-shaped economy. Homeowners, who tend to be wealthier to start with, are benefiting from surging home values. They also spend a proportionately smaller part of their incomes on food and energy, insulating them from inflationary shocks.
Low-income renters find themselves in the opposite situation — they spend a larger portion of their incomes on commodities, so their purchasing power is declining as food and energy costs soar. And they get no benefit from growing home equity; They're just paying steeply higher rents.
The implications of this for business will depend on who a company's customers are. While the wealthy may wince when filling up their tanks and paying for their groceries, they're not likely to pull back on their discretionary spending. Companies that sell discretionary goods and services to lower-income consumers have more cause for concern.
The two-tiered nature of this dynamic might cause investors and analysts to overstate the impact on the economy as a whole, though there's no doubt it will cause very real pain for the tens of millions of consumers who are being squeezed.
With the Federal Reserve's quarterly U.S. Financial Accounts report released Thursday, we now know just how much wealth American homeowners accumulated in 2021. Home equity grew by a whopping $4.3 trillion. For comparison, the biggest year for home equity growth in the mid-2000's was $1.8 trillion in 2004. Cash on hand boomed, too. Thanks to a combination of fiscal stimulus, subdued levels of leisure activities during the pandemic, and perhaps some spending constrained by supply chain-related shortages, cash held in checking, savings and money market accounts grew by $2.2 trillion.
On the other side of the ledger, household debt rose by $1.2 trillion, most of it from mortgages and credit cards. Put it all together and home-owning households added more than $5 trillion in 2021 of either liquid assets or home equity that can be readily tapped at relatively low interest rates. This doesn't count stock market wealth, which grew substantially in 2021 but has pulled back so far in 2022.
These gains dwarf the amount that households spend on energy goods and services every year — an annualized rate of $700 billion as of January 2022. Even if that number grew by $200 billion as a result of the energy shock we've experienced, it's just not very large relative to the gains in incomes and wealth of homeowners and households in the top 20%. For the rich, travel and dining plans are unlikely to be affected by the economic turbulence we're experiencing.
But that's not the case for lower-income renters. A 10% increase in gasoline prices has an impact of -0.9% on the income of someone in the bottom decile of earners. With gasoline prices up 30% this year as of March 9, that's effectively a 2.7% income decline.
And that's just gasoline. The February Consumer Price Index report showed that rents grew at a 7% annualized rate as pandemic-era bargain leases expire and reset at higher rates.
This is our new K-shaped dynamic — rich homeowners have the means to absorb commodity price increases while the poor get squeezed by rent and commodity inflation.
It's an argument for progressives to support measures like suspending the gasoline tax because of who would benefit the most from it, even if that goes against longer-term climate goals.
And it's also an argument to welcome some amount of monetary tightening from the Federal Reserve in the name of controlling inflation because of who's being hurt the most by it. The unemployment rate is low and labor demand remains strong — at least for the time being, monetary policy can have more of an impact on inflation than it will have on employment.
Investors, for their part, should keep the K in mind as companies report how they and their customers are weathering inflation. You can't extrapolate the resilient performance of high-end businesses to the lower-end of the spectrum, and vice versa. Once again, it appears we're heading into an economic environment that's working far better for some than others.
More From Other Writers at Bloomberg Opinion:
- Ukraine War Makes Supply Problems Seem Quaint: Brooke Sutherland
- Elevated Inflation Settles In for the Long Run: Jonathan Levin
- K-Shaped Recoveries End Well for Everybody: Michael R. Strain
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Conor Sen is a Bloomberg Opinion columnist and the founder of Peachtree Creek Investments. He's been a contributor to the Atlantic and Business Insider and resides in Atlanta.
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