Just as chief financial officers are leading companies out of the pandemic, they face a new threat to profits: persistently rising inflation.

The Federal Reserve's preferred inflation gauge, the core personal consumption expenditures (PCE) price index, rose 3.1% year over year in April, well above the central bank's 2% inflation target. Prices are surging across a wide range of products, from used cars and homes to commodities such as copper, steel, iron ore, oil, and lumber.

The Fed may add fuel to the fire. The central bank plans to expand its record balance sheet by 14% to $9 trillion by 2023, from the current $7.9 trillion, further increasing the U.S. money supply, according to financial market participants' expectations cited by the central bank last month.

Months of record monetary and fiscal stimulus in response to the COVID-19 pandemic pushed U.S. household inflation expectations in May to a decade high, according to the University of Michigan consumer survey.

"The public is not stupid. Surveys show a big rise in public inflation expectations—we haven't seen this in 30 years," said Charles Calomiris, a professor at Columbia Business School.

CFO Dive / University of Michigan consumer survey data

For many CFOs under 50, rapidly rising prices may seem like a relic of their parents' era, as foreign as sideburns and bell-bottoms. They may have only vague memories of how double-digit inflation repeatedly battered U.S. businesses between 1974 and 1981.

"Current corporate managers have never experienced a period of inflation. They didn't forget the negative effects of rising prices; they simply never learned about them," said Barry Keating, a professor at the University of Notre Dame's Mendoza College of Business.

Even CFOs who suspect an inflationary wildfire may be approaching would be wise to consider measures to limit the damage from rising prices in their scenario planning, economists and financial executives say. These measures include issuing debt, building inventory, and hedging against dollar depreciation.

Will inflation eventually pass?

Federal Reserve policymakers predict that accelerating inflation is just a temporary phase in the post-pandemic recovery. As pent-up demand fades and supply bottlenecks ease, price increases will eventually slow.

Policymakers tend to let inflation exceed the 2% target to make up for past shortfalls and to lower the unemployment rate, currently at 6.1%, rather than actively fighting inflation.

Some economists argue that the central bank has fueled high inflation over the past few months by keeping its benchmark interest rate at 0.25% and purchasing $120 billion in Treasury bonds and mortgage-backed securities each month, boosting its balance sheet.

"Inflation over the next two to three years is already baked in," said Steve Hanke, a professor of applied economics at Johns Hopkins University. He predicts inflation will be 5% to 6% next year and in 2023.

Rapidly rising prices can disrupt strategic planning and strain a company's relationships with suppliers, employees, customers, lenders, and other stakeholders.

"It's like taking the mortar out from between the bricks of the economy. Inflation is going to get worse," Keating warned. "CFOs will lose the ability to accurately forecast the near-term and long-term future. Business relationships that have lasted 40 or 50 years will change," he added.

Faced with rising prices, many businesses scale back investment. Borrowers benefit, while lenders suffer. Economic growth may slow, the real value of savings declines, and a weaker dollar erodes companies' purchasing power for goods and services from abroad.

To limit the damage, companies may make poor decisions such as overstocking or signing long-term service agreements.

"Companies will lock in long-term contracts, and the results can be very foolish. They tend to do things they don't really understand, which can be very dangerous," Keating said.

Sustained high inflation can trigger a "wage-price spiral," where employees demand higher pay in response to rising prices, and companies raise product prices in response to higher wages and input costs.

Destructive periods of rising prices often end in depression. Eventually, central banks curb inflation damage by raising interest rates, triggering a recession and widespread unemployment.

Economists say CFOs can blunt the impact of inflation with these five steps:

1. Issue debt

With the 10-year Treasury yield currently around 1.6%, CFOs should take advantage of low borrowing costs to issue debt, economists say.

"This is a good time to extend debt maturities as long as possible and consider issuing debt," Calomiris said. After all, inflation reduces the real cost of debt repayment over time. "That doesn't mean issuing crazy amounts of debt you can't repay, but it does mean leaning more toward issuing longer-term debt."

2. Buy goods and services at current prices

Given that inflation erodes purchasing power, CFOs should consider purchasing goods and services they expect to need in the future ahead of time.

"Stay long on inventory, long on commodities, long on goods and processes. That's the smartest thing to do," Hanke said.

CFOs need to weigh expected price increases against the costs of financing and holding extra inventory. This strategy runs counter to the approach many companies have taken for decades to streamline inventory to free up cash.

Still, Hanke said: "It's a win-win bet. If you expect prices to rise 10% or more over the next three or four months, it's better to stay long."

3. Hedge against dollar depreciation

CFOs of companies heavily reliant on imports could consider using currency swaps or similar financial instruments to limit losses from a weaker dollar, economists say.

Financial executives need to consider transaction costs and ensure the other currency is not vulnerable to inflation.

"It's not cheap, and you need to make sure those countries don't face risks similar to those of the U.S.," Calomiris said.

4. Buffer the corporate portfolio

CFOs should consider allocating part of their corporate portfolios to inflation buffers such as gold, Treasury Inflation-Protected Securities (TIPS), and funds that track a basket of commodity prices, economists suggest.

They caution that no investment is a perfect inflation hedge. Gold pays no yield, and commodity prices like oil can be highly volatile and susceptible to geopolitical tensions. Diversification is crucial.

Hedgers get a head start. "We can't all be short the market. There has to be a counterparty," Calomiris said. "If the economy gets into trouble, no one wins—some companies just limit their losses better than others," he added.

5. Learn from the pandemic

Hanke cited Donald Sull of MIT Sloan School of Management's "The Upside of Turbulence," noting that during the pandemic, inflationary episodes, and other unstable periods, CFOs should embody "agile absorption"—the ability to quickly seize opportunities while maintaining structural strengths like a solid balance sheet.

"It's a great mindset for dealing with turbulence, because most people just freeze," he said.

The sudden outbreak of COVID-19 highlighted the value of agility—a key trait when prices surge, economists and financial executives say.

"The pandemic has made companies more agile," Keating said.

Many CFOs used vast amounts of near-real-time and real-time data and analytics to cut costs, strengthen cash management, and secure supply. They abandoned forecasting methods that relied primarily on spreadsheets and backward-looking historical data.

"Inflation brings big changes, so you need to make short-term forecasts very accurate. You need to track short-term indicators to grasp the direction of change," Keating said.

Florida market is hot

Over the past century, many Florida real estate developers have discovered the value of agility in navigating boom-and-bust cycles. Yet, the market over the past few months has been especially startling, said Adam Mopsick, CEO of Amicon.

Mopsick said Amicon, a Miami-based developer and project management company managing over $1 billion in assets, had expected a record year in early 2020.

The pandemic quickly dashed those expectations as clients collectively paused projects. "A lot of people were panicking at the time."

Now, business is booming like never before, thanks to record-low borrowing costs, economic recovery, pent-up real estate demand, widespread vaccination, and a flood of buyers from states like California and Illinois. Demand for luxury residential construction and other market segments is "unprecedented."

At the same time, prices for materials such as steel, copper, aluminum, glass, and lumber have soared, labor costs have risen, and qualified subcontractors are in short supply.

Mopsick said Amicon has had to raise costs on some projects by 20% over the past 12 months and build in higher upgrade contingency fees to offset inflation. "We don't want to budget at yesterday's prices, but at the worst-case prices at project completion."

Amicon is also ordering materials needed for the next 12 months in advance, including steel, piping, lighting materials, glass, and glass products. "When we have the opportunity to lock in today's prices, we do it."

Regarding the Miami real estate market, Mopsick said: "I don't know if we can sustain current levels. A slight pullback wouldn't be a bad thing."

Tennessee market overheated

At a May 19 House Financial Services Committee hearing, Tennessee Republican Rep. David Kustoff conveyed a similar message of restraint to Federal Reserve Vice Chairman Randal Quarles, a leading proponent of the view that inflation will eventually fade.

Kustoff told Quarles that homebuilders and real estate agents in his West Tennessee district face a "red-hot" market, with labor shortages and lumber prices rising at a 300% annual rate, making "building a home almost impossible."

"How long can this continue? When does the Fed need to say 'enough is enough'?" Kustoff asked.

Quarles responded that several times over the past decade, efforts to curb inflation by reducing stimulus prematurely suppressed growth. "If we try to get ahead of the inflation curve now, we could seriously constrain the recovery."

Keating said the Fed has concluded it has repeatedly tightened too early to fight inflation and may now wait too long to control prices. "They may lean toward tolerating inflation until it's hard to easily stop."