A new report from research firm McKinsey & Company says that inflation will kill shareholder value.
“At first glance, the effects of inflation on a company’s ability to create value might seem negligible,” the report notes.
“Yet a closer analysis reveals that to fend off inflation’s value-destroying effects, earnings must grow much faster than inflation — a target that companies typically don’t hit, as history shows.”
McKinsey researchers note that, during the mid-1970s to the 1980s, U.S. companies managed to increase their earnings by around 10 percent.
But they concluded that earnings growth would have had to be close to 20 percent to preserve shareholder value.
“After each acceleration in inflation, reported earnings should be expected to outpace inflation, and reported sales margins and returns on capital to increase, even though in real terms nothing has changed,” the report concludes.
“Unfortunately, history shows that in periods of rising inflation, companies do not make big improvements.”
The Obama administration projects inflation to be low — 1.9 percent this year and 1.5 percent in 2011, as measured by the consumer price index, a figure roughly in line with most other forecasts, The Washington Post reports.
However, the Federal Reserve — which has responsibility for keeping inflation low — is forecasting even lower price increases.
If the economy turns out to perform better than expected, it would make the budget results turn out better than projected, with a narrower deficit than the $1.3 trillion projected next year under the Obama administration's proposal.
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