Since inflation hasn’t been around for the past 40 years, many people haven’t experienced it, cautions Mary Anne and Pamela Aden, economic experts and editors of The Aden Forecast.

Currently, it’s interesting that many people think inflation just pops up, and then the Fed brings it down, and it doesn’t last long. But that’s not the case. The last Great Inflation, for instance, lasted about 20 years. This happened from the mid 1960s until it finally ended in the early 1980s.

The entire experience consisted of three big inflationary waves. That is, the first inflation wave began in 1965 and it surged for five years. It then went down for two years, but it wasn’t over, even though it seemed like it was in 1972.

But then inflation moved much higher for a couple of years in its second wave, peaking in 1974 near 12%. It then came back down again for a couple of years. But the third wave was the real shocker.

Once everyone thought inflation had been beat in the mid-1970s, it came roaring back, hitting its final peak in 1980 near 15%. At that point, it was a huge problem and it took super extreme measures, like interest rates at 20%, to finally get inflation down and keep it down. Inflation generally continued on its downward path until 2020 and it’s now been rising since then. This raises the question, what’s next?

We agree with the suggestion that we are currently much closer to the start of the inflation cycle than to the end of it. The main reason why is because the monetary excesses over the past 15 years have been far greater than anything that's every happened before.

In 2008 the balance sheet was less than $1 trillion. It soared from there, really taking off once covid arrived on the scene. And the end result is that the Fed’s balance sheet is still $10 trillion dollars more than it was in 2008.

This unprecedented boom in new dollars is the direct cause of the inflation that’s currently in place. And since the cause was totally unprecedented, we believe the effect, which will be more inflation, will be unprecedented as well.

But what about the Fed and it’s new round of tightening? Won’t that make a big difference? Unfortunately, no. The Fed’s balance sheet has barely turned down 3% over the past year. That’s nothing and it won't eliminate inflation.

In order to bring inflation down the Fed’s going to have to raise interest rates to levels that are several points above the inflation rate. And we just don’t see that happening.

For now, and assuming history repeats, we could see inflation slow down some this year. And if it does, it’ll likely coincide with a recession, which is the way it unfolded in the previous three inflation waves. Eventually, a recession will affect more people.

The Fed and other central banks would then step in and provide more easy money and inflation would again resurface. There are of course no guarantees it’s going to happen this way, but we believe it’s a likely scenario.

Remember, the real interest rate for both T-Bills and the 10 year yield remains below 0%, after adjusting for inflation. In other words, interest rates will indeed have to rise further to start wringing out these stubborn higher prices. It’s basically cause and effect.

For now, the T-Bills interest rate is hitting new highs and it tends to lead the Fed Funds rate. So here too, these trends are pointing up and reinforcing the “higher interest rates to come” scenario.

Also noteworthy is the fact that stocks are still expensive, despite the falls they’ve already had. They’re far from being bargains. And it’s important to remember that at the end of nearly every bear market most investors hate stocks. They’re fed up with them, but that’s exactly when you’ll find real bargains. We’re not there yet.

Meanwhile, the stock market despises high interest rates. They’ll always keep a lid on stock prices, and so will a recession. So these two factors alone are clouding the fundamental big picture for stocks and it looks like this is also going to continue as 2023 unfolds.

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