Staying Cool If Inflation Heats Up

Here are a few things small business owners can do to prepare for inflation, if economist Arthur Laffer's predictions turn out to be right

By Gene Marks

The 1970s really seem like ancient history, don't they? President Obama was just a high school kid in Hawaii. Tim Geithner was a freshman at Dartmouth. Ben Bernanke was finishing up graduate school at MIT. And kids across the country, like me, thought the Fonz was cool.

Oh, and during a six-year chunk (1971-1977) of that decade, the U.S. Consumer Price Index increased by 47%.

Well, we've learned a lot since then. We've learned that easy money can create inflation and high interest rates. We've learned that a tight lid on the money supply can keep prices under control. And we also learned that the Fonz was really a nerdy Jewish guy named Henry Winkler. (I'm also a nerdy Jewish guy, but hey—no one at any time thought I was cool.)

Inflation Predictions

It seems that some of us are now forgetting these lessons from the past. Some experts are becoming increasingly concerned about the amount of money printed by the government to fund the Administration's stimulus program. (Of course, others disagree, arguing that any inflationary effect will be offset by consumers' new frugality. Others are nervously watching interest rates and the prices of key commodities begin to sharply increase. More alarming, a great many of today's youth think that Zac Efron is cool. And guess what? Yup, he's a nerdy Jewish guy, too.

Arthur B. Laffer is kind of nerdy as well. But that's O.K.—he's an economist. He's also known for advising presidents and not looking at all like Zac Efron. In a recent Wall Street Journal opinion piece Laffer warned his readers to get ready for high inflation and interest rates. His arguments about the risks of the Fed's easy money policies, high deficits, and underfunded liabilities would rattle even the Fonz. "The percentage increase in the monetary base is the largest increase in the past 50 years by a factor of 10," he writes. Laffer, a respected international economist and author, then continues: "Yikes!" Yikes?

Yes, yikes. Laffer writes that with the recession abating and the trust in our banking system improving, the demand for all this money will naturally decrease. All the money in the system will have less value. Therefore inflation is inevitable. He doubts the Fed can do little to stop this situation: "To date, what's happened is potentially far more inflationary than were the monetary policies of the 1970s, when the prime interest rate peaked at 21.5% and inflation peaked in the low double digits. Gold prices went from $35 per ounce to $850 per ounce, and the dollar collapsed on the foreign exchanges." Yikes.

Laffer's not alone. Other economists are saying yikes. And plenty of business owners are saying yikes. There's potential trouble coming. We could be facing inflation not seen in these parts since Kirstie Alley ended her relationship with Jenny Craig.

Managing Debt, Tracking Costs

Some business owners I know are playing it cool, like the Fonz. They're already preparing for the potential of high inflation and high interest. What are they doing?

For starters, they're not taking on new debt. Instead they're looking for other forms of financing, primarily through equity. They're renegotiating their variable-interest obligations, which could kill them financially if Laffer's predictions play out. They're looking to lock in the low rates that are available now. If they are borrowing, it's because they're buying and financing capital equipment, even if it's a little earlier than they anticipated, so that they can get the best interest rate today. They're asking their banks for fixed-rate working capital lines or closing the lines entirely, particularly if they charge fees based on prevailing rates. They're paying down interest-sensitive loans as quickly as possible.

They're also double-checking their accounting systems.

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