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Are the Twelve Days of Christmas Signaling Stagflation?

twelve-days-of-christmasFor the last 27 years, PNC Wealth Management has calculated the PNC Christmas Price Index. Based on the famous song, The Twelve Days of Christmas, it calculates how much it would cost to buy all of the gifts.

True love is a lot more expensive this year. The index rose 9.2% – its second biggest jump ever – to a total price of $96,824 for the twelve days!

(If you want to here some horrible singing, listen to the podcast. We do our short variation of this song.)

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While all the gifts of true love for the 12 days of Christmas are up over 9%, the federal government’s index is up just a little over 1% for the year. So which one is right?

Well, the federal government’s index covers a broader basket of goodies. So you’d have to lean its way. But we think the increases shown in this Christmas Price Index do highlight some concerns.

Is inflation a concern?

All you have to do to confirm it is go grocery shopping. Commodities are up and it’s affecting all food prices. All the birds in the Christmas Price Index are up in price because it costs more now for their feed.

And skilled labor costs are up. In spite of our high unemployment rate, by historical standards, the cost of labor is apparently rising. Higher labor costs lead to higher prices for goods and services.

Inflation and slow growth?

Yet the economy still isn’t growing. Demand still seems tepid.

This is why we’re talking about this today. We may be entering a period of slow economic growth combined with inflation. Back in the 1970s, the term stagflation was coined to describe this same situation.

The Misery Index was created. It’s the sum of the Unemployment Rate and the Rate of Inflation. It’s hard to prosper in times of stagflation.

Of course, we can’t say with certainty that we will experience stagflation. However, it does pay to spend a little time thinking about the scenarios you may face. This is certainly a possibility.

Opportunity for entrepreneurs?

There are opportunities for entrepreneurs who understand the rules. Let’s talk about one of them:

We often hear that cash is king. In times of inflation, cash gets killed.

Interest rates often lag the inflation rate. So, when you deduct your marginal tax rate and the rate of inflation from your nominal interest rate, you can find yourself in a situation where your real rate of return is less than zero.

An example
You earn a nominal interest rate of 10% on a CD. It sounds like a high rate, relative to current rates. But it’s deceptive.

First, you have to calculate the taxes on the interest. Assume your marginal tax rate – the percentage of tax you’ll pay on the next dollar of income – is 30% (federal and state). Let’s calculate your after-tax rate of return:

Nominal After-Tax Rate of Return = 10% x (100% – 30%) = 7%

You netted 7% after taxes. However, we still need to consider inflation. Let’s say it’s 9%, as in the case of the Christmas Price Index. Now we can calculate your real after-tax rate of return:

Real After-Tax Rate of Return = 7% – 9% = -2%

In just 10 years, you will have lost 20% of your purchasing power, all else equal. In other words, you will only be able to afford 80% of what you’re buying now.

We’ll share the rest of our rules for dealing with stagflation in an upcoming newsletter. We hope you’ll subscribe today

Direct link to The Bigg Success Show audio file | podcast:
http://traffic.libsyn.com/biggsuccess/00655-121910.mp3

(Image by Flickr,CC 2.0)