Chapman Economist Forecasts Higher Inflation and Interest Rates

By Lynette Bertrand, Director of Marketing & Communications, CACM

A sharp economic recovery, resulting from federal stimulus and deficit, often brings with it other long-lasting effects. That was the overall forecast offered by Chapman’s top economist Dr. James Doti.

The U.S. economic recovery from COVID was a dramatic V shape. Overall GDP (gross domestic product) rose to 6.7 in 2021, a significant rise from a 3.5 percent drop in 2020, according to Doti, who presented Chapman University’s 2021 Economic Forecast to CACM members.

Doti, who presented his findings during a webinar in late June, noted that the sharp and fast recovery was a result of what he called the most significant fiscal stimulus in the nation’s history -- an unprecedented $5 trillion has been spent to revive the economy through three federal spending packages.

However, this move had secondary effects. It led to a dramatic increase in the nation’s money supply of more than 25 percent. Doti surmises that an increase in money supply always has led to inflation in the past. He pointed to different periods in U.S. history when money supply increased and was followed shortly after by inflation.

“Every time money increases sharply, you have a sharp increase in inflation,” Doti said. “What do we expect now? That’s what econometrics is -- taking history, quantifying it and seeing if it repeats itself.”

Money supply has increased from 7.9 to 25.6 percent over the past year. “It’s very similar to what happened at the end of World War II,” Doti said. Applying economic theory and history, he said Chapman predicts that inflation will increase to 5.3 percent by 2023. From the current levels of around 2 percent, that’s more than a doubling of the inflation rate.

Every time money increases sharply, you have a sharp increase in inflation.

Some precursors of inflation are already evident, he said, including commodity prices, which increased 17.3 percent in one year, and the devaluation of the dollar -- which in trading was down 9 percent. If the dollar decreases, it increases the price of imported goods and services. The consumer price index is up 5 percent from May of last year to May of this year.

Doti said that while the Federal Reserve Board has stated that the current inflation rise is transitory, and that it didn’t plan on raising interest rates for three years, slowly they are coming around to the idea of increasing rates sooner.

“When prices go up, the federal funds rate, that’s set by Federal Reserve Board, increases with it,” Doti said. “That’s a mandate of the Federal Reserve Board to control against inflationary excess.”

The 10-year bond rate also follows closely on the consumer price index as does the 30-year mortgage rate.

Doti said Chapman is forecasting that the consumer price index (CPI), which is currently 1.9, to go up to 5.3, the 10-year T bond rate to go from from 1.5 to 3.4 and 30-year mortgage rate to go from 2.9 to 4.7 by 2023.

This increase in mortgage rates will have a direct impact on housing prices, which he predicted would decline nationwide. The stock market will also see declines with inflation.

CALIFORNIA FORECAST

Turning his attention to California, Doti pointed to some harrowing trends. Compared to the nation overall, California saw a steeper decline in job growth -- 8 percent versus 6 percent nationwide, during 2020.

He said more onerous mandates and COVID stringency affected the state’s payroll, which was down 7.4 percent in 2020. Chapman is predicting payroll to be up 3 percent in 2021. Doti said that while this represents a “nice recovery,” it’s not enough to offset the sharp job loss.

And while 2020 was a gangbuster year for construction, with residential permits up almost 20 percent, concerns about population trends don’t portend well for future growth in housing.

Population growth has slowed drastically over the past decade -- from 350,000 people annually to virtually zero. “That will lead to demand changes,” Doti said.

Research conducted by Chapman points to several factors leading people to move out of California, including high taxes and regulation. California has the second highest state taxes in the nation, second only to New Jersey. The state also has 400,000 statutes in the books while the average for all states is around 100,000. “That is very significant in out migration with 260,000 people leaving the state on net a year,” Doti said.

In California, home prices shot up 15.5 percent in 2021 for single family homes, from an 8.6 percent increase in 2020.

However, Doti said Chapman forecasts home prices to drop by 15 percent by 2023.

“If mortgage rates increase to 4.7 percent, we will see home prices in Orange County, and probably something similar for other urban areas in California like San Diego, Los Angeles, and San Francisco, to drop 15 percent, but it could be even greater than that,” he said.

“If you believe our forecast of higher inflation and higher mortgage rates, it’s going to lead to an adjustment, a downward adjustment, in housing prices.”

Dr. James Doti

DR. JAMES DOTI has presented Chapman’s Economic Forecast to CACM Members at its Executive Leadership Summit. This year, Dr. Doti presented his findings during an exclusive webinar to CACM members in late June. Dr. Doti is President Emeritus and Professor of Economics at Chapman University. He earned his M.A. and Ph.D. degrees from the University of Chicago, where he was an Edward Hilman and National Science Foundation Fellow. He joined Chapman University in 1974 and in 1978 founded the University’s A. Gary Anderson Center for Economic Research, which, under his leadership, has become nationally recognized for its scholarly research and economic forecasts. Between 1991-2016, Dr. Doti served as President of Chapman University. Dr. Doti is a leading figure in the Orange County business and academic communities. He also serves on the boards of First American Financial Corporation and Whittier Trust.