UPDATED Looming Inflation: A Public Service Announcement

The nation is struggling with recovering from the current recession, which recovery does not seem assured. However, thinking longer term, I see looming inflation on the horizon. Both The Economist and the Wall Street Journal devoted significant column inches to the tricky subject of how the deficits and rising debt of the United States federal government will result in crisis. Allan Meltzer in the WSJ pins the problem on the Federal Reserve monetizing the debt, printing money to buy Treasury bonds. Both he and the Economist agree that inflation may take a while to take off, but on current trends it is unavoidable. If that happens, prior to the 2012 elections, then Obama will go the way of Jimmy Carter. Although both articles end optimistically, I don't think our politicians have the will nor the insight to do much about the problems. Look at the dilemma they face and ask yourself if you believe they have the stomach for the tough options.

Japan’s experience illustrates the excruciating dilemma facing American policymakers. The White House acknowledges the deficits it projects are too high. But slashing spending or raising taxes too soon could snuff out recovery and leave America with even bigger deficits. Asked on October 15th when the administration would tackle the deficit, Tim Geithner, the treasury secretary, said: “First, growth.”

And from the Journal:

The Obama administration chooses to blame outsize deficits on its predecessor. That's a mistake, because it hides a structural flaw: We no longer have any way of imposing fiscal restraint and financial prudence. Federal, state and local governments understate future spending and run budget deficits in good times and bad. Budgets do not report these future obligations.

I think we are in for some pain that will only be solved through high interest rates and deficit reduction. I also don't think that will happen under a Democrat controlled government.

More pressing for my readers might be what to do about this situation. Fortunately, we have lived through this movie before. First, mortgage holders should take advantage of the current low interest rates to get into a fixed mortgage. I know this will cause most home owners to increase their monthly payments, but Mrs. Daddy and I have gone this route to reduce future uncertainty.

Second, if you have an investment portfolio, you should own precious metals (gold, silver) as part of that either outright through coins, my preference, or through mining stocks. These hedge inflation well. I don't overloading on precious metals is a good idea, we strongly believe in a balanced portfolio.

Finally, there are Treasury Inflation Protected Securities, or TIPS, are Treasury bonds that provide another inflation hedge.

TIPS pay a fixed coupon plus a rate that rises with inflation and falls during deflation. The portion that adjusts for inflation gives investors protection against erosion in the purchasing power of the greenback. TIPS are indexed to the Consumer Price Index, or CPI, which is released monthly and tracks prices paid by consumers for a representative basket of goods and services.

Ultimately, inflation is a tax that ravages everyone, but not equally, and it is hard to avoid all of its ill effects. The last thing we can do is continue the fight against all of the ridiculous budget busters this administration has proposed, and start voting in real conservatives in 2010.

Graph of public debt forecast The Economist.

UPDATE

KT has an excellent comment that I liberated as an update:

I'm with you up to a point. I don't like gold or other precious metals. When you buy them, you buy rocks. Instead, I'd buy mutual funds from well-run countries, such as Australia. In fact, if you want to invest in commodities, Aussie mutual funds would be a good way to do it - the Aussie economy is, to a great extent, a commodities economy. Plus, they're the supplier of choice for China for lots of minerals. Lastly, the Australians have nothing like the kind of debt problems we have.

I agree that this strategy will also hedge inflation, but I admit I still like owning a small amount of actual metal. Finally, I am partial to Aussies, as Mrs. Daddy's mum hails from down under.