The Fed Trembles at the Buffett of the 1980s: “Inflation is a Giant Corporate Worm”

Consumer Price Index (CPI) has stood at 4.2%, its highest level in thirteen years.

Inflation returns to star in the nightmares of central banks. The fear that a price boom will slow down the long-awaited economic recovery to overcome the coronavirus crisis is the talk of economic policy makers, but also of investors and businessmen.

The US Federal Reserve does not seem to be concerned in public about the 4.2% increase in the CPI in the month of April and recalls that its inflation target of 2% is an average target, so it does not foresee taking measures to reduce it by the moment .

However, central banks will have to be careful. As the investment magnate Warren Buffett warned 30 years ago: “inflation acts like a gigantic corporate worm”, which can jeopardize any attempt to revive the economy if it grows too much.

Thus, in his letter to shareholders in 1982 , the CEO of Berkshire explained that “this worm preemptively consumes its daily diet of investment dollars, regardless of the health of the host body. Regardless of the profits of a company , it has to spend more on accounts receivable, inventories and fixed assets to only equal the unit volume of the previous year. “

Buffett explained at the time – when inflation was above 10% year-on-year – that the price boom is more damaging the less prosperous the company is, because the sacrifice of cash to face rising costs can mean “sacrificing the sales volume, long-term competitive position or financial strength. “

For this reason, the magnate already pointed out three decades ago that inflation can hurt more than income tax, since it can make you lose purchasing power despite having investments with positive returns.

In addition, he warned of how the rise in prices slows down the economy not only because of the fall in investment and spending, but also because money in circulation is withdrawn: the company could need liquid money in the short term and have difficulties to finance itself.

The Federal Reserve will not meet again in the Federal Open Market Committee (FOMC) for another three weeks, when it will also unveil its economic projections for the coming months and years. In those carried out in April, they estimated that the US would end the year with inflation of 2.4%, almost two points less than what the latest data has shown. They will then have to indicate if it is time to start cooling the economy – or give hints that it will be done in the near future – to prevent the “gigantic worm” from continuing to engulf companies.

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