Is it possible that higher interest rates are actually making inflation higher than it should or could be, achieving the exact opposite of their intent?
Here are my thoughts as it relates to home-flation, a big driver of inflation that is not fully registered in CPI which miraculously excludes owned housing!
1. Higher rates have caused lower home inventories as owners stick to their lower rate. Lower home inventories result in higher prices in a supply-demand world. Demand remains strong as we are in a healthy jobs market.
2. Higher rates cause businesses to pay more to borrow. This cost is immediately passed on to the consumer who has to pay more for everything including building supplies.
3. Higher rates trigger demands for higher salaries. Higher labor costs are then passed on to consumers to maintain profits.
4. Higher rates result in developers paying more to develop new inventory, which then adds to their cost and selling prices.
5. Higher rates result in developers either cutting back on construction as high borrowing costs make projects unprofitable or they focus on higher priced, higher-profit properties. This results in fewer 'affordable options' being built which leads to an imbalance in supply and demand and raises the prices of the homes available.
6. Higher rates allow those with big cash reserves to earn more, thereby increasing their buying power and their openness to pay more for things.
7. While higher rates are designed to cool demand traditionally, this is only really effective if there is oversupply or sharply lower demand. Demand usually drops when people run out of savings or lose jobs.
8. Hundreds of thousands of Americans moved to lower tax states over the past 4 years. All these people have had much more to save and spend because of this. Many moved because inflation had made their area too expensive when combined with high taxes. This increased spending power has fueled inflation, sometimes to extreme levels in some regions as those used to higher spending habits still consider their new location pricing to be relatively cheap. If they have maintained their prior incomes, even more so.
9. Higher rates scare off home buyers who either choose to rent or are compelled to do so. This fuels rent prices upwards which registers in inflation numbers. Higher rents encourage building more rental properties. Higher rents encourage investors to buy up single family homes with strong (and rising) returns, which fuels demand, which fuels pricing upwards.
Maybe higher rates were more effective in cooling demand when we were in a mostly manufacturing economy. These days we are mostly in a services economy. Most home buyers are wealthier than the average renter and the wealthier are better off today for the most part with rising incomes, increasing generational wealth distribution, savings, equity in stocks, crypto, real estate, etc.
