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Will We Have Inflation, Deflation, or Hyperinflation? Part 2
From The Daily Capitalist
This is Part 2 of a four part article that deals with what I feel is the primary question investors must now answer: is our future to be inflation or deflation? The answer has vast implications to our investment planning and decisions for the near term, and possibly for our long term. It is a very complex question with a lot of moving parts involving economics and politics.
Like it or not, it is economic theory that is driving macroeconomic policies and political decisions that determine whether we will have inflation or deflation. Since not all of my readers are sophisticated traders I have tried to present the issues in a direct and hopefully understandable way. To those sophisticated readers, please bear with me.
Part 2
The Inflation Argument
The argument for inflation rests on the money supply charts. The inflationists show various measures of money supply increasing, including the version used by Austrian theory economists, called True Money Supply (TMS)[1]:
Note: The M1 chart shown in Part 1 more clearly shows the trend in the M1 money supply increase.
Again, the YoY percentage change is more revealing:
The inflationists also point to the Consumer Price Index (CPI) which shows price increases:
The YoY rate of change of the CPI clearer:
As the chart reveals, prices have been rising since mid-2009. Even the measure of Core CPI (CPI less energy and food, CPILFENS) appears to be rising:
The inflationists would say that this effect of inflation, rising prices, is a classic measure that proves new money is hitting the economy and that has caused, among other things, prices to rise.
The Deflation Argument
The deflationists have a different take on the data. They point to theories by economist Steve Keen which states that first banks make loans, and then the Fed increases money supply to meet demand. According to Keen and Mish, money supply is created first by banks making loans, then by the Fed supplying the money, because you can’t increase money supply without getting it into the economy. If there is no lending the money supply remains unchanged. Thus it is a rise in credit that leads to money supply growth.
Mish also argues that excess reserves don’t really exist; they are a fiction created by the Fed, a mere computer entry. If you consider all the loans made by lenders, and the actual or potential defaults of their loans, those losses would absorb all the “excess” reserves. Therefore, those “reserves” are more or less spoken for and don’t represent money for making new loans.
Mish also believes that reserves aren’t the problem with banks; rather it is their shaky capital base. Lending is constrained by their lack of capital and financial instability rather than by reserves.
The deflationists say that because the size and breadth of the crash in the real estate markets and related debt, the problem is too big for the Fed to handle. Until debt is deleveraged and banks and businesses repair their balance sheets, the Fed’s effort to increase the money supply is like pushing on the proverbial string.
The result is that real estate asset prices are declining and that results in deflation. They say it is similar to what the Japanese experienced in the late ‘80s and ‘90s, when they experienced almost zero growth, no inflation, and declining asset values. Banks, they say, are not going to lend until this deleveraging occurs and businesses become solvent and creditworthy.
The deflationists say that the current measures of prices are inaccurate because they don’t reflect the declining values of real estate. If real estate was factored in, then prices would be shown as declining. The only measure of real estate in the CPI computation is what is called the real estate rental equivalent which measures the rental value of homes rather than their asset value.
They suggest that prices are indeed falling anyway if you look at Core CPI (CPI less energy and food) on a year-over-year percentage change basis:
Obviously there is some evidence of declining prices as shown by this chart.
Which is it: Inflation or Deflation?
Let me suggest a way of looking at the problem.
We understand that inflation or deflation is a monetary phenomenon, not just an increase or decrease in prices. And, in order to cause inflation new money must find its way into the economy.
There are several ways the Fed can do that.
The Fed can make cheap money available by lowering the interest rate on money it lends out, which increases money supply. Even with the Fed Funds rate at 0.18%, effectively zero, this doesn’t seem to be working.
The Fed can make it easier for banks to lend. This seems to be a problem for the Fed right now. As we have seen previously, lending is way down, excess reserves are high, and the money multiplier has fallen dramatically. This hasn’t worked either.
Yet money supply has been increasing despite the failure of these policies.
There is another tool in the Fed’s arsenal called Open Market Operations (OMO) whereby it buys and sells securities with its primary dealers. For example, buying Treasury paper from dealers increases money supply and selling decreases money supply.
Starting in January 2009, the Fed began a program of buying mortgage backed securities (MBS) issued by Fannie, Freddie, and Ginnie Mae. At its peak, they bought $1.25 trillion of these assets, pumping up money supply by that amount. The purpose was to get liquidity into the economy and try to revive credit and economic activity. Further it absorbed the risk of these “toxic” assets, relieving the former holders of their bad investment decisions.
This form of money inflation does not have the impact of the money multiplier were those funds in the hands of bankers who would lend out the new money, but it does represent a substantial amount of new money injected into the system.
This money infusion is being used by the very willing sellers of these toxic assets, the big investment banks or the investment banking operations of the big commercial banks, not so much for making loans, but for their own investment purposes; this money has been driving the financial markets.
Deflationists vs. Inflationists vs. Modified Inflationists
This is the point where the inflationists and deflationists part. The inflationists believe that the Fed can and will increase the money supply any time they wish through open market operations. The deflationists believe it doesn’t matter what the Fed will do because banks are not in a position to resume lending, thus counteracting the Fed’s attempts at increasing the money supply.
I have a different take on this, but it is a bit complicated to explain. To try to put it in a nutshell:
- I don’t agree with the deflationists that we will be just like Japan: continued deflation which would be the result of keeping alive bankrupt (zombie) banks and corporations.
- I part a bit with inflationists because I don’t believe Open Market Operations will have the inflationary impact they believe will occur. I believe that bank lending, the best tool for inflating money supply will remain constrained and be a drag on the economy.
- I believe that as the economy goes into a double-dip recession, the Fed will create ways to inflate that will be effective.
I refer to my position as Modified Inflationism.
Predictions and a Decision Tree
Here is the problem in trying to forecast what will happen in the future: tell me what the Fed and the government will do. Remember the Freakonomics’ humorous take on forecasting:
The future will be different from the present to some degree and some point, and I have anecdotes and hearsay to prove it.
Austrian types don’t believe that you can use econometric models to predict the future because such models are usually wrong. You can’t distill millions and millions of economic decisions down to a simple or even complex formula of human behavior because the data set is too vast to be useful. We believe you have to understand why individuals do things in the economy first before you can study data. These were some of the breakthroughs of the great economists Mises and Hayek.
To figure out what the Fed might do involves a lot of probabilities. And that is my method of analysis: what are the probabilities that the Fed will do one thing rather than another when faced with different circumstances. It is much like constructing a decision tree to see where they can go. If X happens, then the Fed’s choices are A, B, and C. What are the consequences of each and what is more likely to happen.
Stick with me.
Tomorrow, Part 3. The double dip economy, the Fed's choices, and their fear of deflation.
After Part 4, I will publish the entire article as one downloadable PDF.
[1] The True Money Supply (TMS) was formulated by Murray Rothbard and represents the amount of money in the economy that is available for immediate use in exchange. It has been referred to in the past as the Austrian Money Supply, the Rothbard Money Supply and the True Money Supply. The benefits of TMS over conventional measures calculated by the Federal Reserve are that it counts only immediately available money for exchange and does not double count. MMMF shares are excluded from TMS precisely because they represent equity shares in a portfolio of highly liquid, short-term investments which must be sold in exchange for money before such shares can be redeemed. It includes: Currency Component of M1, Total Checkable Deposits, Savings Deposits, U.S. Government Demand Deposits and Note Balances, Demand Deposits Due to Foreign Commercial Banks, and Demand Deposits Due to Foreign Official Institutions. There are different takes on TMS. See http://mises.org/content/nofed/chart.aspx?series=TMS.
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"The deflationists have a different take on the data. They point to theories by economist Steve Keen which states that first banks make loans, and then the Fed increases money supply to meet demand. According to Keen and Mish, money supply is created first by banks making loans, then by the Fed supplying the money, because you can’t increase money supply without getting it into the economy. If there is no lending the money supply remains unchanged. Thus it is a rise in credit that leads to money supply growth."
Keen is right about the central banks supplying the money but seems to ignore the fact that the national currencies themselves are just loans from the central banks and so the bad paper on the balance sheet of the central banks can default and deflate just as commercial bank 'assets' can, which is deflationary, but inflationary at the same time.
So "is our future to be inflation or deflation?"; it'll be both at the same time because they are the same thing.
Lit, thanks for the dose of reality. Your greater good comment throws a monkey wrench in my train of thought.
I have to think this question, asked ad nauseam, needs to be rephrased to concentrate the audience and the actors responsible for the remaining levers of the macro economy.
So the question becomes, which synthesis of current problems will result in the greatest concentration of wealth and power by the fewest number of oligarchs and kleptocrats?
Too often on ZH and other forums with similar worldviews, the bloggers and participants take on a academic concept of the "greater good", both in posing questions and providing possible solutions.
So ask yourself, how close to total deprivation can the oligarchy leave the inhabitants of North America, Europe, Australia, NZ, and other 1st world nations without causing widespread riots and revolutionary zeal. How far can the golden goose of this slave class be squeezed to prvide the absolutely most inverted wealth pyramid possible?
The first answer is somewhere between the newly striking workers at Honda's China plants with their new higher wages and benefits, and the $12.50/hr with almost no benefits GM employees working at the new Grand Cherokee plant in Detroit. Factor in the Remnimbi/USD exchange rate in your calculations.
Wage deflation in 1st world, wage inflation in 3rd world.
We now are returning to the historical Case Shiller avg pricing for housing, with a deflating income denominator. Question how the banks will buy the politicians to provide maximum control. The fight in California legislature is the frontline this week.
Housing deflation.
BUt, the price of food in 1st world will get relatively more expensive as the limited nominal supply of high value foods is spread further between the 1st and 3rd world working classes as wages converge.
1st world food inflation, 3rd world expanding upmarket availability of foodstuffs.
Same goes for any product of limited quantity, be it chocolate, coffee, or rare earth materials needed to build electronics such as cell phones.
So the question becomes, which synthesis of current problems will result in the greatest concentration of wealth and power by the fewest number of oligarchs and kleptocrats?
I agree that is the goal, and I agree with your description of the future of wages and the lifestyles that go along with them. Remember, it is one thing to achieve wealth, and another thing to hang on to it through crises.
so the answere is simply to convince the current oligarchs that it is in their interest to grow the cake before the rest of us starve and they will be better off as well! come back marie antoinette all is forgiven!
Your not going to take away American Idol, are you?
I can see your discussion is dominated by issues of scarcity, rather than inprecise references to inflation/deflation. Bravo.
isn't this more of less the opposite that has happened the last few decades? housing inflation, goods deflation
In the strict sense of the term and in adherence to this article, inflation only applies to the money supply. Everything else is an effect (if it is even affected due to many other factors controlling price appreciation/depreciation)
KB of course you are right. Confusing the change in the rate of increase or decrease with total positive or negative movement is more common than not. Especially by reporters.
Oh, my.
First, let me commend you for making the effort. While I do not agree with all you write, you do the work necessary to write anything, and I consider that worthy of praise.
Second, I refer to your sixth (6th) chart, CPIFLENS, where you interpret a fall in the rate of year-over-year increase as evidence of "declining prices". This interpretation is, unfortunately, completely wrong. Consider:
You are driving a car at 100 km/h. At the end of the first hour, you have experienced 5% "inflation", or rate of increase of speed. You are now travelling at 105 km/h. The next hour, your rate of increase drops to 2.5%. Your speed is now 105 * 102.5 = 107.3 km/h. Even though your rate of increase has dropped by 50%, your speed has still gone up.
In CPI terms, even though the Y-O-Y rate drops, so long as it remains positive, to suggest that prices are declining is either disingenuous or evidence of an astonishing lack of arithmetic ability.
Finally, your analysis remains incomplete without a look at the velocity of money. As an undergrad, I studied both engineering and economics. I remember suggesting to my eco prof (a decided non-Marxist, BTW) that a consideration of both the money supply and its velocity might be interesting as analogues to physics' study of mass, velocity, momentum, and potential and kinetic energy. He thought the idea was interesting (this was the early 1970's), but told me that since monetary velocity was constant, this wouldn't be fruitful, and that I should concentrate on money supply instead.
However, since then, we've seen that V is not constant, and a brief scan of the comments belies this. "If you lend it, they will borrow" may seem seductive to Ben Bukkake, but, in the event, he's not finding a stream of headlights pointed towards his cornfield. The old adage "Pushing on a string" is an inexact, if apt, encapsulation of this effect. Despite the availability of credit, credit worthy people don't want to borrow. Of course deadbeats do, but the best borrowers are intent on shoring up their own balance sheets, preparing for the second part of the double dip any sentient being knows is imminent.
Again, I appreciate your efforts, but there are some basic errors or vacancies in your thesis.
I think I was referring to the CPI YoY in reference to what the deflationists would point to to support their argument. I agree that a slowing of price increases in an upward trend is still and upward trend. Velocity doesn't change the money supply nor affect prices.
Thanks for the comment.
Yep. The difference in MPG's between an empty bus and a fully loaded one is nil if it remains stationary.
Or if it's pushed off a cliff.
damn, i fell off my seat...again.
No, now you MPG's approach infinity.
U.S. Sovereighn debt will be resolved the way all debt is resolved. Some of it will be paid and some of it will be defaulted on. The part that will be paid is self explanatory. The part that will be defaulted on will be defaulted in different ways. Benefits will be reduced, more jobs will be lost, the dollar will be devalued etc. Kind of like having fun tapping out our credit cards, then living within our means only because we have spent and borrowed to our full limit. We will have a more Spartan lifestyle as we fall back and regroup.
What hasn't been mentioned on the inflation/deflation debate is the key point of wage inflation. Without wage inflation, in the face of contracting credit growth, inflation of consumer items and necessities will be shortlived. Imagine if oil was $100 in this economy? It's not just a matter of producers raising prices - consumers can't pay. In the era of expanding credit people could pay by taking on more debt or borrowing against debt-inflated assets, but if credit is contracting, there isn't enough money in the system to support higher prices.
Businesses that try to offset reduced business by raising prices will find out this strategy will fail. With 16% real unemployment, there is zero chance of wage inflation.
I suspect that because most of us have only experienced inflation, there is a predisposition to believe it to be an inevitable outcome. But until the credit contraction gets to the point where balance sheets are repaired enough, all the QE, money printing and smooth talking by the Fed will do nothing. From the individual level to the governmental level we have borrowed against the future too much. It's time to settle up.
Even in complete agreement with your post, take in to consideratoin the highest level macro view of credit, that is the aggregate WORLD demand for credit.
There are more workers and their families with access to credit now, than in 2000, by a multiple of 2 to 2.3, first generation workers with access to credit will binge buy, the hundreds of millions of workers in Asia, BRIC, etc will cause inflation by increasing their demands for better quality goods, from food to transportation, to household appliances, etc.
Which brings in calssical views of trade flows, manufacturers will divert goods to these new markets, leaving US and European consumers with less supply, less pricing power both absolute (less earning as you mentioned, and less purchasing power by exhange rate, PPI) and relative to the emergent consumers of the developing world.
Look at the exponential increases in the cost of high quality Russian Caspian caviar in the prior decades, the same cost curve will begin to apply to down market foodstuffs, consumer goods, and sundries of various kinds where supply is limited and potential growth in supply is limited.
It's not Malthusian to suggest that the quality of life will fall for much of the 1st world, and during this period while the standard of living falls, it will cause inflation in these products.
However, Americans will always be able to buy grains, especially corn. Americans will be able to buy cotton products, etc. However, whiskey, tequila, rare earths, hardwoods, pulp woods, etc will become exceedingly expensive. The toal number of humans with access to these goods will increase, the total number of Americans who can afford these goods will decrease.
So we cannot see inflation, much less hyperinflation, because the American consumer cannot afford it?
Can you then tell me how the people of Zimbabwe and Weimar Germany, not to mention Russia, Yugoslavia, and almost every Latin American nation, managed to afford it?
Pretty much. Price of gas goes up, go and try asking your boss for a raise. With 15 people lined up to take your job, good luck. Although all the liquidity the Fed is pumping into the system is finding it's way into the commodity markets, these liquidity injected peaks don't last. Look at the price of lumber lately.
IF we begin to see signs of wage inflation, I'll change my view but right now there is no evidence of inflation or hyperinflation.
In all the hyperinflationary scenarios you mentioned there WAS wage inflation. People were being paid with increasingly larger amounts of worthless dollars.
Right now, the US dollar is not becoming increasingly worthless, rather the opposite. The USD is on the verge of a major breakout.
Yeah, rub some zit cream on it and it'll be okay.
Eventually.
Sorry, not in my universe it isn't. Overall prices may be rising more slowly, but they are still rising. And for the 14,239th time, the collapse of an asset bubble does NOT equate to deflation!
As for an appreciating dollar, you are asking us to believe that for the first time in human history, we will see a fiat currency GAINING purchasing power? Now that would be "This time it is different", on steroids! Sorry, not going to be holding my breath waiting for that unicorn to ride in with a leprechaun on its back.
And while you may very well believe in the chimerical possibility of a meaningful or sustained deflation under a fiat currency regime, do you realize that such a proposition nicely coincides with the public propaganda that a regime intent on the devaluation of its currency would work to espouse prior to such a devaluation? Frankly, I wonder how much of all the "deflation" noise we keep reading and hearing is not just an intentional trap being set by the political and financial elite for those ignorant enough or gullible enough to fall for yet another financial fleecing.
I'm just looking at a long term monthly chart of the USD. If we consolidate and break the 89-92 on the USD index, look out. I'm not married to the deflation view but it's hard to argue against the fact that the USD has rallied pretty hard since last winter.
Currency is like any other commodity. It rises and falls with supply and demand. At this point the demand for USD is increasing faster than the supply. When people get nervous, they demand USD and gold. Since Walmart isn't accepting gold as tender right now, the demand for dollars is not going away anytime soon, especially if predictions a double dip realize.
You seem very convinced that the government can create inflation on demand. They can't. Remember that the creation on money requires two parties, the lender and the borrower. Without the borrower the money creation stalls. For those the argue that governments can "borrow" in place of private sector contraction, they can to a certain extent, but the amount of money they need to borrow to offset the contraction is insufficient. Are they going to replace all the credit being destroyed by the housing market contraction? Not even close. Not to mention the political opposition to increasing debt loads right now.
The problem is this: the amount of debt servicing that has built up in the economy has reached a point where it has become unserviceable. With interest rates at almost zero, people still are unwilling to take on more debt. Where is the Fed going to go?
The hurdle is that people and companies have become so accustomed to inflation that there is the assumption that rising prices can be absorbed. Maybe in the distant future again, but certainly not now. Watch for it. Every time a non pm commodity spikes in price, watch it come down shortly.
I'm just looking at a long term monthly chart of the USD. If we consolidate and break the 89-92 on the USD index, look out. I'm not married to the deflation view but it's hard to argue against the fact that the USD has rallied pretty hard since last winter.
Currency is like any other commodity. It rises and falls with supply and demand. At this point the demand for USD is increasing faster than the supply. When people get nervous, they demand USD and gold. Since Walmart isn't accepting gold as tender right now, the demand for dollars is not going away anytime soon, especially if predictions a double dip realize.
You seem very convinced that the government can create inflation on demand. They can't. Remember that the creation on money requires two parties, the lender and the borrower. Without the borrower the money creation stalls. For those the argue that governments can "borrow" in place of private sector contraction, they can to a certain extent, but the amount of money they need to borrow to offset the contraction is insufficient. Are they going to replace all the credit being destroyed by the housing market contraction? Not even close. Not to mention the political opposition to increasing debt loads right now.
The problem is this: the amount of debt servicing that has built up in the economy has reached a point where it has become unserviceable. With interest rates at almost zero, people still are unwilling to take on more debt. Where is the Fed going to go?
The hurdle is that people and companies have become so accustomed to inflation that there is the assumption that rising prices can be absorbed. Maybe in the distant future again, but certainly not now. Watch for it. Every time a non pm commodity spikes in price, watch it come down shortly.
For the 15,000th time i need to remind you that a collapse in asset bubbles are a destruction of capital which is intrinsically deflationary. Simple example: You finance a home for $100,000. You sell it after the bubble pops for 10 cents. You still owe almost $100,000 that was destroyed (so long as you're not a dead beat, no real deflation yet). But you decide to default. Now it's really deflationary since the credit that was extended to you (inflation) has now vanished.
Now let's imagine that this scenario is happening all around you. What do you think happens to the value of the remaining dollars? Repeat after me, purchasing power of those dollars increases (not for the first time BTW).
Please accept it for now and allow us deflationists to make love to our scarce FRN's in peace.
Ahh, I see it know. So 'deflation' for mainstreet US, but 'inflation' (resulting in a devalued USD) for the rest of the world.
IE Nobody has any USD in the US, excepting those standing by to accept money at less than 0% interest from the printing presses they paid to control, while the rest of the world is awash in USD because the foreign debtors who are calling in their debts are spending it on hard assets as fast as they can? So in the US, food/fuel all continue to increase in price, but nobody has any cash to buy anything because of nationwide deflation...
Ewww, that sounds nasty for the US.
Regards
Price rises for such goods are the result of scarcity (out bid by foreigners), rather than inflation, a word that is better reserved for monetary abundance. Inflation is the underlying tide, raising the price of everything. Scarcity is a local wave or storm surge, affecting an isolated beach, harbor, or product/asset.
In other words, "Ignorance is bliss."
Good luck in you chosen strategy, for as long as you can maintain that ignorance in the face of a ongoing dollar devaluation reality.
And please explain to me how devaluation is performed. Devaluate against what? I have asked economists the same question as they raise their cape and vanish in a puff of smoke.
And please explain to me how devaluation is performed. Devaluate against what? I have asked economists the same question as they raise their cape and vanish in a puff of smoke.
What has this got to do with monetary policy? Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.
http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2002/20021121/default.htm
Sure it can threaten to but the Fed knows the consequences and so it does not and has not either. Just like the US Military has the capability to obliterate any major city in the world. But it does not.
And enough of the printing press junk. So sick of hearing that threat. You do understand that the so called printing press has a fuse called the Bond market, yeh??
I understand no such thing. The Fed measures the consequences of printing against the consequences of not printing. When the consequences of not printing exceed the consequences of printing, they will print, as they already have.
At the height of the past credit crunch, the Fed had lent, spent or guaranteed $23 Trillion. The bond market held its breath, but otherwise did nothing because they believed the alternative was the total repudiation of paper. Open your eyes.
That's $23T worth of things and not thin air like it apparently came from. Again the Bond market did not react negatively towards the dollar as you'd expect. WOW, almost 2x GDP out of thin air and the dollar actually gains value. Bond holders do expect nominal (dollar denominated) returns don't they? What's even more confusing is that they are willing to accept less worthless paper returns.
With sarcasm aside, the government debt market is bigger than the US government and the Fed. If anyone is going to bring the dollar down, it's them and the Fed knows that and hence, consequences.
PS. UST yields are low for the same reason the USD and gold are simultaneously up.
It takes time to break paradigms. Years, in fact, but the fiat paradigm is breaking. There remains a shrinking but still critical mass of adherents to the following B School memes: the "money velocity" meme; the "printing money to replace destroyed credit" meme; the "Fed's got our backs" meme; the "new money in excess reserves isn't inflationary" meme. That critical mass is disintegrating, albeit susprisingly slowly. We've recently seen more and more finance-types, to date mostly old timers (who haven't gotten their entire experience since 1981), come out and cite currency destruction trends. It seems that B School indoctrination was part of the fiat maintenance plan.
Note if you will how quickly the ECB's EuroTARP was met with capital flight into gold; it was almost instantaneous. The Germans especially have recent cultural memory of an experience with currency debasement; they know exactly what it looks like, the conditions that foster it, and what it means. Americans, on the other hand, are still stuck in 2 generations of economic exceptionalism and a full 30 years of "the Fed's got our backs, the system works." Our recent economic disaster, as far as we know, is deflation. No one here, no one at all, is taught that that deflation was met by a deliberate and brutal currency debasement by the very President that so many admire as a saviour: FDR.
And so it was, and so it shall be. Persistent deflations are met by currency debasement. Your above argument about "with respect to what" is meaningless. Anywhere but here in the U.S., the mere existence of a big pile of "new" money, whether or not it is "held" in bank reserves, would be met by flight from that currency. Many of you are still trapped by either B School monetarist indoctrination or by an emotional attachment to the status quo. It's cracking around you; can't you see it?
Creating new money out of thin air and declaring it to have the same value as currently-existing money, even if it just to replace lost "credit", destroys the store of value function of money. That is an obvious fact. And if the money isn't a store of value, then what is it? Nothing more than a token of arbitrary value. The German know this. Americans don't seem to.
Edit: above I said "Creating new money out of thin air and declaring it to have the same value as currently-existing money, even if it just to replace lost "credit", destroys the store of value function of money." That is not stating it correctly. In fact, creating new money out of thin air and declaring it to have the same value as currently-existing money repudiates the money itself. The fact that the new money is held in some reserve account doesn't matter as long as it exists. What's really shocking is that Bernanke himself believes this to be true; http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2002/20021121/default.htm
"By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services"
Europeans, Germans especially, are reacting exactly the way Bernanke predicted; the ECB declares its intentions to start sovereign bailouts, and capital flees...immediately. It's possible he is amazed by how stupid the American public really is about money. The Chinese balked at American printing, but not the masses in America.
Sure it can threaten to [devalue] but the Fed knows the consequences and so it does not and has not either.
Plot the price inflation rate on the Y axis and the amt of Fed money printing on the X axis. Most functions go through zero before going from a negative number (deflation) to a very large number (hyperinflation).
Since you apparently think we're experiencing price deflation now, the Federal Reserve can simply create out of nothing more and more money until the inflation rate goes from a negative number (deflation) to zero, and then stop, and even possibly reverse some of its money printing if necessary. I don't see why a zero inflation rate would be cataclysmic.
Hussman has some counter arguments to a few of the points you made in your earlier posts:
Inflation Myth and Reality
It's not that I apparently think it, but actually see it. Over the past few years, Oil $147-$77, DOW-40%, RE-30% and so on. Please don't mention gold b/c that's another phenomena altogether.
But what happened to all that printing?? Well it's securitized or parked at the Fed earning interest. Not in your hands. But more importantly, where's the hyperinflation we were promised? And BTW, this printing thingy can be reversed through OMO. Again securitized through government backed UST's.
Now from your link, Hussman mentions it's the government liabilities that are expanding, not private.
And back to the subject of consequences, the governments deficit spending, financed through Fed UST swaps, has limits determined by voters. So far it has not impacted the dollar's value as reflected in UST yields. So if this is what devaluation means, then it hasn't worked and I suspect it will be short stopped if the public has any say in it.
Wake me up when real inflation finally arrives. Maybe by then I'll have half a chance selling my house.
Hussman is talking about the price inflation/deflation outlook from current (or as of several months ago) prices, not from peak prices a few or several years ago. There's no point debating what's obvious from just looking at a chart.
We know there are "excess reserves" parked at the Fed earning interest, but I suspect a lot of it has been lent to the Federal government to fund the deficit. Once it's spent by the gov, it ends up back in the banking system, where 90% of the amt lent would show up as excess reserves again, assuming a 10% reserve ratio.
Hussman is not in the hyperinflation camp, and doesn't see much if any inflation for the next 4 or so years, so I'm not sure you two even disagree that much about outcomes. He doesn't see deflation in the interim however.
At least around here, coastal real estate prices are still declining at a slow rate. I know since I'm in the market for another rental property. Prices are still overvalued compared to prior troughs like 1997 however. Good luck with selling your house.
What is with this absurd question, "devalue against what?"? Devalue against REAL GOODS!
What part of "purchasing power" do you not understand?
As for how it is performed, there are any number of ways. But the fact of the ongoing devaluation of fiat currencies is beyond dispute --- except for among the "useful idiots" who support the political and financial elite's pro-establishment deflationary propaganda.
You have in no way answered my question. How would they devalue it? I know they have done it in the past but "things are different this time". Literally.
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So are you denying that the dollar has been undergoing devaluation since the abandonment of the gold standard in the early 1930s? Or has the 25+ times rise in prices since then all been an illusion?
The dollar has been floating since it was severed from gold in the 70's. Like all Fiat's, it floats but my question was how would they devalue it? What instruments would they use? You make it sound like it can be performed with a swift stroke of a pen or keyboard.
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Oh, I think I understand your point now --- you mean like how Roosevelt summarily devalued the dollar in 1934 by raising the price of gold from $20.67 to $35.00 an ounce by executive decree?
Yes, in that sense there is little room for a de jure devaluation of the dollar. In practice, however, there are a great many ways in which the dollar can be devalued --- as witnessed by the last 80 years of monetary history. My point is that the dollar can and most likely will be devalued by simply "more of the same".
ozzii, akak
It does not really matter which of you is more right than the other. No one knows what is going to happen.
One SOLUTION for us is to own gold and enough FRNs to last you 6 months (a year maybe?). With enough of those FRNs, they could also be deployed if there is a major deflationary event: to buy farmland, a world class vacation spot, more gold, etc.
Diverisification is another way to win, relatively speaking.
Without wage inflation, in the face of contracting credit growth, inflation of consumer items and necessities will be shortlived.
But until the credit contraction gets to the point where balance sheets are repaired enough, all the QE, money printing and smooth talking by the Fed will do nothing.
Like so many billions of ZH posters before you, and still to come, you are unable to distinguish between inflation and currency crisis.
Tell me how U.S. sovereign debt is resolved; lay out your scenario please.
By the time a resolution comes around, a fiscal conservative says tough luck to our lenders, and defaults. M3 is destroyed, deflation runs rampant.
Inflation is the increase in money supply, not the increase in prices. If we print trillions of dollars to and give them only to bankers, the price of flat screen TVs is not going to immediately shoot through the roof. The first price rises will be in the things that banks buy. Banks are not consumers of consumer goods, they are consumers of financial goods. Once the banks consume all the raw materials traded on the exchanges, costs will then flow down to consumers. But because consumers and businesses never got any free money, hyper stagflation is the result.
Too many factors to consider, and some of the measuring sticks are moving targets.
I'll wait to see the end of the movie, pass the popcorn please...
Gotta go inventory the gold and silver. I'm too lazy to take any other path. You guys finish up and turn out the lights on the way out. Thanks!
I'm with you, Rock.
I personally don't have what it takes to run with the big gods or swim with the snarks. Every time some loose $ come my way, I buy something round, flat and shiny.
I wonder if pop caps are going to make a comeback?
Thanks Trav and SW. Even though this has been discussed many times, the situation becomes clearer with each thought provoking post. Bottom line on sovereign debt is that too many pigs are slopping at the public trough. People are so entangled in government hand outs that they don't realize that they are the problem. My neighbor is a retired cop and retired military man. His wife is retired military and they both draw SS. Every penny of their income is from tax payers. They may live another 25 years. Teachers, law enforcement, firemen, social workers etc. all need to be fired and allow these important services to exist only in the private sector. Government is incapable of running a business efficiently and profitably. Obama, Ben, Tim have never owned their own business. I just don't see how anyone is qualified to make financial decisions for us if they don't have the experience of running at least some kind of business profitably. If I use more man power than my customer is able to pay for to complete a job, then I have to make up the difference out of my own pocket. This is what is happening with teachers. law enforcement etc. The govenment is reaching into our pockets to pay for these hoards of inefficient, unprofitable people. In other words, if my business does not function within it's means it goes under. That is what is happening on a national level. I think it's the one and only problem. If we lived within our means we could handle peak oil, have less wars, rid ourselves of the squid. We must wean our countrymen from the public trough. That's half of us.
Bernanke is just itching to unleash an avalanche of cash into the system to reflate the bubble; Obama is itching to borrow another trillion for his constituents. The senate could'nt muster the sixty votes on a small stimulus / unemployment extension, leaving Bernanke. I'm kinda with Mish on this one; I don't see a Gov't takeover of banks, but so long as Bernanke has the Big Green "Print" Button on his desk, he'll try nearly every avenue available to him, including Lehman era business lending facilities as well as open market ops.. in the short term I can see him dipping into the Muni Market as a way to help Obama as well as provide liquidity.
At the end of the day, this battle will continue ad nauseum whilst the rest of us slowly and surely slide into a Depression. The people don't have the income to support both their current debt levels and retail companies. Banks, knowing that an avalanche of foreclosures and commercial r/e losses are comin, won't loan to anyone anytime soon. Tax hikes will throw a wrench into the economic machinery. After November, political gridlock is assured.. no additional tax hikes, no spending cuts.. only more and more debt.