As if we needed any more confirmation that deflationary pressures continue to prevail and to swamp the broader economy, here is SocGen's Albert Edwards with his most recent (and humorous: we had no clue that the "UK?s ONS statistical office has just decided to throw canned fizzy drinks out of the UK?s CPI basket and replace them with small bottles of mineral water") menu prescriptions for the near- to mid-term future.
First an appetizer, here is a look at US consumer leverage trends. Yes, good point: what leverage?
Last week?s Flow of Funds report from the Fed showed that US total credit continued to disappear down the plughole, despite the government?s best efforts to inflate us back to prosperity (see chart below). The current recovery, based in very large part on the end of de-stocking, simply cannot be sustained while credit is disappearing at this debilitating dehydrating rate.
The recently released Q4 Flow of Funds data allowed economists to get a full view of the 2009 data. It was ugly. Most shockingly, the household sector shrank its borrowing for the seventh quarter in a row – with minimal signs of any abatement to the process. Combined with continued rapid balance sheet shrinkage in both the corporate and financial sectors, total domestic debt contracted for the fourth quarter in a row (see front page chart). Now, we might be getting used to such news, but it is always worth remembering that, prior to the global meltdown, even one quarter of total domestic debt shrinkage was like seeing a black swan with some pink dots thrown in for good measure.
Some statistical observations: while the process of deleveraging is on the right path, it has a long path to go. Just compare household debt between the lofty dot com days and today.
With nominal GDP actually managing to inch up some 0.8% in the year to Q4 2009, the economy managed its first baby step along the long and winding road to normality, with US debt dipping under 350% of GDP (see chart below). Household leverage has returned to 94% from its peak of 96% in both 2007 and 2008. But consider this: at the peak of the Nasdaq bubble, household leverage was just shy of 70%. There is a very, very long way to go.
The entre: Japenese "Ice-Age" Melange.
Many clients ask how we will know when the deleveraging process is over or whether there is a ?right? debt/income ratio. We will know when the deleveraging process has ended when we see an end to the unprecedented pace of decline in bank lending (see chart below). This process took three years in the early 1990s. Expect at least a decade of Japan-like Ice-Age pain.
Desert: Sovereign Debt Flambe.
Ultimately, as my colleague Dylan Grice writes, I think we head back to double-digit inflation rates as governments opt to default. I certainly again expect to see CPI inflation above 25% in the UK and indeed in most developed nations in my lifetime ? I have happy memories of the three-day week and doing my homework by candlelight. In the near term, however, the deflationary quicksand will suck us ever lower until we suffocate. A key driver for underlying inflation remains unit labour costs. While unit labour costs decline at an unprecedented rate, they are sucking us inevitably into a Fisherian, debt-deflation spiral. Only then will we see how far policymakers are willing to go to debauch the currency. Last year saw them cross the Rubicon. Monetisation is now the policy lever of first resort.
In summary, the menu for the next 5 years: Hyperdeflation followed by rampant inflation, with a smattering of stagflation thrown in for good measure. Served chilled. Enjoy.