07/02/2008 05:12 am ET Updated May 25, 2011

Our Love, Hate Relation to Inflation

Listening to debates about housing, oil and commodity prices is surreal. Housing and medical costs are huge components of household spending. In the first 3 months of 2008 housing and medical costs represented 33% of personal consumption expenditures, or $3.3 trillion. Across the same three months sky high energy and food costs accounted for 18% of personal consumption expenditure, or $1.8trillion. Housing and medical costs suffered massive and sustained inflation for years. Housing prices- the single largest cost facing American families- went nuts from 1996-2007. Not only were there virtually no complaints, every imaginable policy action was taken to extend and increase run-away and unsustainable house price inflation. Speculators drove housing price inflation. Individuals bought more, larger and more expensive homes constantly. How? Why? They got larger and larger loans on easier and easier terms. Lenders could bundle and sell the home mortgages to speculators around the world. We see the downside now as these speculative investments have already gone bad into the hundreds of billions of dollars. Everyone caught up in the process is writhing in pain. Our response? Let's re-inflate the bubble and/or try to lock in our inflated house prices. We have been failing and trying that for the last year. These attempts to save run-away housing inflation are feeding energy and food costs.

Over the past several years oil/gas/energy prices have soared. Prior to that, oil prices were basically flat or declining for more than 10 years. Food prices performed similarly. More recently commodity prices in general have spiked. Energy, food and materials costs are significant. They represent a smaller portion of spending than housing and medical care. Food and energy combined account for about half as many household dollars as housing and medical costs- even now. Why then the vast disconnect in response to inflation? Why is speculator driven hyper inflation in housing the greatest thing ever? Why is speculation influenced inflation in food and energy prices the work of Satan?

US mortgages were sold in an international market place. Chinese, Japanese and other nation's economic growth created vast pools of trade surplus dollars. Trillions of these dollars were recycled back to US homeowners to allow America to keep borrowing and spending- including on foreign exports. Oil export surpluses were stockpiled and recycled into US mortgages as well, to keep America buying oil and to support the US dollar. The public neither heard about, nor seemed interested in this from 2001-2007. As of June 30, 2007 foreign holdings of US agency securities stood at $1.4trillion. Such securities are heavily comprised of bundled American home mortgages. Foreign, particularly Chinese and Middle Eastern, demand growth funded the inflation in housing. No one minded, no one said anything and few paid attention. Suddenly, Chinese demand growth and Middle Eastern policy is decried for causing energy inflation and aggravating food prices. There was no problem when international markets, speculators and financial flows inflated housing. The stories of housing, energy and food are similar and intertwined. The responses are vastly divergent.

The speed and transparency of food and energy cost increases may explain part of the difference. A newly enhanced interest in blaming foreign actors smoothes political and media discussion. The confluence of today's high prices with declining home prices, stagnant wages and dimming job market prospects helps explain radically different perception of the new inflations. In the end, none of this explains it all. We seem to have decided some hyper-inflations are good and some are bad. Ultimately, we like hyper inflation in what we already own and hate it in what we have to buy.