View Full Version : Deflationista takes on iTulip to prove deflation is here!
http://www.itulip.com/images/deflationista.gifDeflationista takes on iTulip to prove deflation is here!
by Roger J. Deflationista (iTulip) October 31, 2008
The Fed faces an impossible task. In the face of recession and the worst credit crunch since the 1930s the Fed's crash program to boost the money supply and raise inflation expectations is a failure. I prove it using the most up-to-date inflation, money supply, and bond rate data issued by the Fed today.
If the Fed has succeeded in boosting the money supply surely the key money supply measure M2 is up. Fat chance! Let's take a look at the carnage!
http://www.itulip.com/images/M2010108-103108.gif
Looks like M2 is up for the year and up for the period ending Oct. 31, 2008. Must be an anomaly–something wrong with the data.
What about MZM? Surely that declined, what will all of the deflation we've been having.
What is MZM and why it's the best measure of the money supply? A measure of the liquid money supply within an economy. MZM represents all money in M2 less the time deposits, plus all money market funds. - Answers.com
MZM has become one of the preferred measures of money supply because it better represents money readily available within the economy for spending and consumption. This measurement derives its name from its mixture of all the liquid and zero maturity money found within the three "M's." - Investopedia
Here's the collapse of MZM, then.
http://www.itulip.com/images/MZM010108-103108.gif
Well that's disappointing. MZM is up strongly for the year with a sharp spike in the current reporting period ending Oct. 31, 2008.
Fine. But we all known that the banks are sucking wind. Bank credit must be way off, what with all of the stress in the banking system. Bank credit has crashed, right?
http://www.itulip.com/images/bankcredit010108-103108.gif
Oops! Bank credit is through the roof. Huh.
Well, so what? That doesn't prove anything. All that money sitting in bank and money market accounts making up M2 and MZM and all that bank credit created by the Fed doesn't mean squat.
The Fed can't make consumers borrow it! The Fed can't make banks lend it! If that were the case then the CPI wouldn't be falling. That's the measure of all that money chasing goods and raising prices, not languishing in bank accounts. Here's where we'll find our deflation. All the Fed's printing is for naught.
http://www.itulip.com/images/cpi010108-0929-08.gif
Well whaddaya know. The CPI after falling for a couple of months is up again.
But that's temporary, a lagging indicator. That's inflation from before the recession set in when demand was still high. That's the last we'll see of inflation! And to prove it, we'll look at inflation expectations priced in to inflation-indexed Treasury bonds (TIPS). You can't fool the bond markets! That's thousands of savvy fixed income investors voting pro or con on future inflation. No doubt TIPS interest rates are way, way down, pricing in deflation that will go on for years and years. Why I'd bet dollars to donuts TIPS rates are below 2% now.
http://www.itulip.com/images/TIPS2002-2008.gif
No, no! That can't be! TIPS interest rates going from 2016 all the way out to 2032 are spiking? iTulip warned me about this back in early September in Future inflation fears topple TIPS (http://www.itulip.com/forums/showthread.php?p=45890#post45890) but I didn't believe it. Now PIMCO is piling into them (http://online.wsj.com/article/SB122520168318976001.html?mod=googlenews_wsj).
Suckers! Don't they know deflation is in the cards? What does that stupid bond market and PIMPCO know, anyway?
Just look at 30 year mortgage rates. They are falling through the floor signalling that deflation is ripping through the US economy.Bankrate: Mortgage rates surge to three-month high (http://www.marketwatch.com/news/story/Bankrate-Mortgage-rates-surge-three/story.aspx?guid=%7B9C48E298-03F6-4740-AF31-2977D8477431%7D)
Oct. 30, 2008
NEW YORK (MarketWatch) -- Mortgage rates bounded higher this week, with the average 30-year fixed mortgage rate soaring from 6.32% to 6.77%, according to a Bankrate.com weekly national survey. The average 30-year fixed mortgage had an average of 0.39 discount and origination points, it said. The average 15-year fixed rate mortgage jumped to 6.46%, while the average jumbo 30-year fixed rate climbed to 7.95%. Adjustable mortgage rates were mixed, with the average one-year ARM dipping to 6.09%, and the average 5/1 ARM increasing to 6.67%.
Oh, I give up. No signs of deflation anywhere, just a short term spike in the dollar from panicky holders of euros, rubles, reals, pesos, and rupee piling into T-Bills to get into dollars but still avoid US banks like the plague. Everything else points to rising inflation.
Oh, well. Back to the drawing board!
- Roger J. Deflationista
See also: The truth about deflation (http://www.itulip.com/forums/showthread.php?p=57193#post57193)
Happy Halloween from the iTulip crew!
http://www.itulip.com/images/paulsonhalloween.jpg
iTulip Select (http://www.itulip.com/forums/showthread.php?t=1032): The Investment Thesis for the Next Cycle™
__________________________________________________
To receive the iTulip Newsletter or iTulip Alerts, Join our FREE Email Mailing List (http://ui.constantcontact.com/d.jsp?m=1101238839116&p=oi)
Copyright © iTulip, Inc. 1998 - 2007 All Rights Reserved
All information provided "as is" for informational purposes only, not intended for trading purposes or advice. Nothing appearing on this website should be considered a recommendation to buy or to sell any security or related financial instrument. iTulip, Inc. is not liable for any informational errors, incompleteness, or delays, or for any actions taken in reliance on information contained herein. Full Disclaimer (http://www.itulip.com/GeneralDisclaimer.htm)
Chomsky
10-31-08, 03:14 PM
Cute. Thanks for the laugh.
hayekvindicated
10-31-08, 03:48 PM
Terrific stuff. I am glad that "Deflation" has become a popular theme - that means Im on the other side of the market. If everyone was convinced that Inflation was going to be the problem, gold would be selling at $3,000 instead of $720. As someone who just bought another large chunk of gold, Im perfectly satisfied with everyone being convinced that deflation is on the horizon.
The more people there are worrying about deflation the better - the more money the Feds and all the other CBs will pump.
Thanks for the timely data. It's always better to know what is happening than to speculate about what could happen.
grapejelly
10-31-08, 04:11 PM
so whadaya think, are we headed for INflation or DEflation?
I'm wondering why MISH is so convinced that inflation is not possible? I think his position is that interest on the growing national debt will just consume any new money being pumped into the system. FRED, I'm new here so I apologize if this has been answered and I just haven't found the post yet....
M3 is also clearly "deflating" (and even started before MZM, since its more sensitive to direct Fed actions ;) ).
http://www.nowandfutures.com/images/m3b.png
http://www.nowandfutures.com/images/m3b_mzm.png
And the alternate M3 (adding in TAF etc, as repos) is showing similar and even stronger effects.
http://www.nowandfutures.com/images/m3b_with_taf_etc.png
Bank credit, comm'l/industrial credit, real estate credit and total credit are significantly up lately.
http://www.nowandfutures.com/images/credit_types_roc_short_term.png
Interbank loans have not crashed.
http://www.nowandfutures.com/images/interbank_loans.png
http://www.nowandfutures.com/images/interbank_loans_long.png
Commercial paper sucks, but the Fed's new Commercial Paper Funding Facility just added about $145 billion "support" this week and a turnaround may have occurred.
http://www.nowandfutures.com/images/comml_paper.png
Velocity has tanked and the concept of monetary lags ( Money supply, lags, velocity (http://www.itulip.com/forums/showthread.php?t=6212) ) does apply though.
I'm wondering why MISH is so convinced that inflation is not possible? I think his position is that interest on the growing national debt will just consume any new money being pumped into the system. FRED, I'm new here so I apologize if this has been answered and I just haven't found the post yet....
I can't speak for MISH, but interest on the national debt isn't going to "consume" the money pumped into the system because when the government pays interest on the debt, the money it pays isn't destroyed. Government interest payments are a budget issue (and eventually a solvency issue) for the government, but they are not really a money supply issue. If you hold a government bond and receive an interest payment from the government, then you can go out and spend that interest payment -- the money does not disappear from the money supply, and your ability to spend the money will continue to support prices. In fact, when the interest payments become too large -- and the government is facing insolvency -- you should expect inflation as the government monetizes its debt.
For future reference, you can estimate the numbers surrounding interest payments on the debt from figures in the FY2009 federal budget published by OMB here (http://www.whitehouse.gov/omb/budget/fy2009/pdf/09msr.pdf). In table S-7, it says that net interest payments totaled $237 billion in FY2007. However, this doesn't include interest payments that the government "pays itself" for the portion of the national debt held by government agencies (according to table S-13, about 44% of the debt in FY2007). I don't have an exact reference for the interest the government "pays itself", but I can estimate it from other data. For instance, the Trustees of the Social Security and Medicare Trust Funds report (http://www.ssa.gov/OACT/TRSUM/trsummary.html) that they held $2.6 trillion worth of government account series bonds at the end of 2007, from which they received $129 billion in interest -- real close to 5%. Returning to table S-13, in FY2007 the government owed itself $3.9 trillion total, so if I use the 5% interest rate estimated for the Social Security and Medicare Trust Funds for the entire $3.9 trillion, I get about $195 billion to add to the $237 billion of net interest, or a total of $432 billion in interest payments.
Inflation exptations AT the moment are very low (Chart falling). But it can change. 30 yr Mtg is at 6.46% on 1/11/2008, as Treasury bill selling by govt will be huge in coming months, so rates up on supply, not so much on inflation concerns.
766
metalman
10-31-08, 05:46 PM
I can't speak for MISH, but interest on the national debt isn't going to "consume" the money pumped into the system because when the government pays interest on the debt, the money it pays isn't destroyed. Government interest payments are a budget issue (and eventually a solvency issue) for the government, but they are not really a money supply issue. If you hold a government bond and receive an interest payment from the government, then you can go out and spend that interest payment -- the money does not disappear from the money supply, and your ability to spend the money will continue to support prices. In fact, when the interest payments become too large -- and the government is facing insolvency -- you should expect inflation as the government monetizes its debt.
For future reference, you can estimate the numbers surrounding interest payments on the debt from figures in the FY2009 federal budget published by OMB here (http://www.whitehouse.gov/omb/budget/fy2009/pdf/09msr.pdf). In table S-7, it says that net interest payments totaled $237 billion in FY2007. However, this doesn't include interest payments that the government "pays itself" for the portion of the national debt held by government agencies (according to table S-13, about 44% of the debt in FY2007). I don't have an exact reference for the interest the government "pays itself", but I can estimate it from other data. For instance, the Trustees of the Social Security and Medicare Trust Funds report (http://www.ssa.gov/OACT/TRSUM/trsummary.html) that they held $2.6 trillion worth of government account series bonds at the end of 2007, from which they received $129 billion in interest -- real close to 5%. Returning to table S-13, in FY2007 the government owed itself $3.9 trillion total, so if I use the 5% interest rate estimated for the Social Security and Medicare Trust Funds for the entire $3.9 trillion, I get about $195 billion to add to the $237 billion of net interest, or a total of $432 billion in interest payments.
mish can make it about nine words into one of your erudite and precise posts before dismissing it as 'keynesian claptrap' as he does when he encounters something he cannot comprehend.
i prefer to listen to prof. ash.
$432 bil in interest is only 3% of gdp.
nathanhulick
10-31-08, 07:56 PM
Great writeup, but dont expect any deflationistas to actually believe it. It seems like the deflation camp is populated by die hard believers who will not be swayed by any amount of actual facts.
metalman
10-31-08, 08:02 PM
Great writeup, but dont expect any deflationistas to actually believe it. It seems like the deflation camp is populated by die hard believers who will not be swayed by any amount of actual facts.
yeh, mzm, m2, bank credit, inflation, bond prices... all lies made up by the gov't to keep you from getting rich when deflation takes your gold to $100! :D
never did follow the logic over there at the mish zone.
Bart,
..."Interbank loans have not crashed."...
isnt the Fed to Private bank rescue funds in this number.
I dont believe that interbank trend, as the price (spread) of interbank loans as gone up, so the volume would drop.
You could regard swaps and derivatives as forms of private credit though.
Bart,
..."Interbank loans have not crashed."...
isnt the Fed to Private bank rescue funds in this number.
I dont believe that interbank trend, as the price (spread) of interbank loans as gone up, so the volume would drop.
To the best of my knowledge, that figure does not include Fed to private bank loan data. Although the rates and spread did go up substantially (and are coming back down), the data does show that it did not substantially affect interbank loans.
In my opinion, other factors like confidence (one definition of money being an idea backed by confidence) play and played a larger role in the current financial crisis.
Charles Mackay
11-01-08, 09:54 AM
http://www.nowandfutures.com/images/m3b_with_taf_etc.png
Maybe a new label is in order? M3c for "crazy as hell"?? :D:eek::D
Thanks for the update Bart because by John Williams M3SGS it was almost starting to look toppy..
Maybe a new label is in order? M3c for "crazy as hell"?? :D:eek::D
I'll drink to that! ;)
And do keep in mind that the chart you linked is very much off the beaten path due to its somewhat arbitrary inclusion on the new Fed repo facilities.
Thanks for the update Bart because by John Williams M3SGS it was almost starting to look toppy..
I don't know, but I suspect that John Williams reconstruction will also reverse upward in his next monthly version. And mine will probably drop some due to oil price and Eurodollar issues... but who knows.
rchdenton
11-01-08, 03:39 PM
Okay, if I follow you correctly then long term bond yields are beginning to rise or will do so shortly.
Does anyone have an option strategy we can use or is this not a good idea.
I can't speak for MISH, but interest on the national debt isn't going to "consume" the money pumped into the system because when the government pays interest on the debt, the money it pays isn't destroyed. Government interest payments are a budget issue (and eventually a solvency issue) for the government, but they are not really a money supply issue. If you hold a government bond and receive an interest payment from the government, then you can go out and spend that interest payment -- the money does not disappear from the money supply, and your ability to spend the money will continue to support prices. In fact, when the interest payments become too large -- and the government is facing insolvency -- you should expect inflation as the government monetizes its debt.
For future reference, you can estimate the numbers surrounding interest payments on the debt from figures in the FY2009 federal budget published by OMB here (http://www.whitehouse.gov/omb/budget/fy2009/pdf/09msr.pdf). In table S-7, it says that net interest payments totaled $237 billion in FY2007. However, this doesn't include interest payments that the government "pays itself" for the portion of the national debt held by government agencies (according to table S-13, about 44% of the debt in FY2007). I don't have an exact reference for the interest the government "pays itself", but I can estimate it from other data. For instance, the Trustees of the Social Security and Medicare Trust Funds report (http://www.ssa.gov/OACT/TRSUM/trsummary.html) that they held $2.6 trillion worth of government account series bonds at the end of 2007, from which they received $129 billion in interest -- real close to 5%. Returning to table S-13, in FY2007 the government owed itself $3.9 trillion total, so if I use the 5% interest rate estimated for the Social Security and Medicare Trust Funds for the entire $3.9 trillion, I get about $195 billion to add to the $237 billion of net interest, or a total of $432 billion in interest payments.
Thanks to ASH for that reply. So clear that even I understood. With prices falling on homes and potentially other items initially, what will stop people from just saving anything beyond the items of basic need due to the fear of losing capital? I read somewhere that in the GD, this was an issue (hoarding cash, gold) for quite a time. Is there a catalyst that will break this loose or do things just finally reach a point that "deals" are seen globally and people just start spending again?
labasta
11-01-08, 04:49 PM
So, it isn't interbank lending then, it's all about derivatives of mass destruction. This has brought down the banks, has it? Makes sense.
But, if interbank lending is still going on, or is even higher, then the banks must trust each other. Why are their share prices in the toilet? Why are they being nationailzed? Why did I read in the Irish Independent that the Irish government had to give the blanket guarantee to save Anglo-Irish and several very large companies connected to it from disappearing?
Help me make sense of this.
Maybe it's not about current debt being issued, but the ability of expontential new debt which must be issued for the system to survive, now cannot be. Derivatives may have saved their 2004 asses, but maybe now it's come to its end.
Maybe it's the expontential system which is at its end.
One more item, I probably mangled MISH's message - he did say that deflation at this time wasn't possible due to the national debt. The rest was my expansion and maybe inaccurate. I'm not a true believer in either camp but am just seeking information to build an opinion.
I meant inflation wasn't possible.
Thanks to ASH for that reply. So clear that even I understood. With prices falling on homes and potentially other items initially, what will stop people from just saving anything beyond the items of basic need due to the fear of losing capital? I read somewhere that in the GD, this was an issue (hoarding cash, gold) for quite a time. Is there a catalyst that will break this loose or do things just finally reach a point that "deals" are seen globally and people just start spending again?
Hi BDS4. I think inflation vs. deflation scenarios have been more ably analyzed than I could (http://www.itulip.com/forums/showthread.php?t=4359&highlight=inflation+deflation) by others -- ad nauseam -- in previous iTulip threads (there are links to several such threads in this (http://www.itulip.com/forums/showthread.php?t=4377&highlight=inflation+deflation) post). You and I are in mortal danger of being tersely directed to take it elsewhere (http://www.itulip.com/forums/forumdisplay.php?s=&daysprune=&f=24) by exasperated senior iTulipers who have seen this topic hashed over repeatedly already (although we may be granted some leniency, since FRED started the thread). That said, I'm happy to talk about it, because I haven't personally attempted an expository summary of the issue before. Here's my summary of what I've read.
So, the question is -- what will happen if Americans start saving and stop spending? I'm going to ignore the behavioral aspect of this issue (whether American culture really would switch from consumption to saving, if offered "free money" to continue spending) and take that as a stipulation. Absent effective government intervention, and absent global markets, there would indeed be a deflationary recession. It would be deflationary because of reduced demand from private consumers (less money chasing goods, services, and assets), and it would be a recession because reduced demand begets reduced economic activity (which could reduce demand further, as jobs are lost... and so on). However, there is government intervention, and there is a global market.
Government intervention can take several forms. The government can mail citizens tax rebate checks, or bump up unemployment benefits, or find other ways to put public funds in the hands of consumers. The government can also create money in the banking system and reduce the cost of credit to encourage banks to increase lending. Either of these measures will create some demand indirectly, although if the American people have truly given up excessive consumption cold turkey, then these measures will only serve to replace some of the consumer demand for necessities that is lost as a result of personal insolvency. Cheaper credit can also fuel borrowing for investment, but there is no guarantee that the investment will be domestic. You could get another asset bubble going, but it might be overseas. Japan's mild but lengthy recession is the poster child for "pushing on a string" -- a case in which domestic demand from a nation of savers did not rise much in response to cheaper lending, and the investment which was engendered was mainly overseas (the yen carry trade). This is more likely to be a problem once deflationary expectations (the belief that saved dollars will be worth more tomorrow than today) become entrenched, which is one reason the government will try like the dickens to reflate.
Faced with a population of savers, the government can also directly create demand, serving as the consumer of last resort, through increased public spending. The government can also institute capital controls (e.g. taxes on foreign investment) and tax preferences to discourage a carry trade from developing. Finally, the government can intentionally devalue its currency in a bid to increase export activity and reduce foreign competition with domestic industries. (Protectionist policies of this type are not generally productive, as they tend to reduce both the volume of trade and economic efficiency -- but that's not to say the protectionist policies aren't tried.) In extremity (deflationary expectations have set in, despite the government's best efforts to reflate), the government can intentionally create inflation by outright debasement of the currency (e.g. through monetization of the government's own debts). This means that the government would pay its bills by creating money directly, rather than collecting taxes or borrowing from the public. This would be the ultimate catalyst to get people to spend rather than save, because this would massively devalue the dollar, creating inflation and the expectation of future inflation. Expectations of inflation mean that savers expect the purchasing power of their savings to drop over time, which gives them an incentive to spend today rather than save for tomorrow. (Note, however, that monetization of the debt is basically currency suicide, so it would only be used as a last resort, in the face of a Great Depression type scenario or actual federal insolvency. The other types of government policy I outlined are also inflationary, and would be tried first because the government has a better chance of staying in control of the situation.)
Aside from the potential for a carry trade and the possibility of trade wars, the existence of global markets also entails the large-scale movement of capital in to and out of the American economy. In the midst of a global financial crisis, you would expect international capital to seek a safe haven. If dollar-denominated American assets look more likely to hold their value than various alternatives -- judged in the currency of foreign investors -- then you would expect foreign capital to flock here. That would entail the exchange of foreign currency for dollars to buy the assets, creating higher demand for the US dollar, which would have a deflationary impact on the economy. Conversely, if dollar-denominated assets look like a worse risk to potential foreign investors -- for instance, because of suspicions that the US will be unable to honor its debts without devaluing its currency, or because the growth prospects for the US economy are judged to be worse than foreign alternatives, or because of suspicions that the US will intentionally devalue its currency to get people to spend rather than save -- then you would expect capital flight. This would result in a flood of dollars, as dollar-denominated assets are sold and the dollars are exchanged for other currencies. I believe this dynamic is the main reason why iTulip says deflation is unlikely to result from this crisis. As a net debtor with a large current account deficit, flatlined savings rate, and skyrocketing public debt, the United States makes a poor destination for flight capital. Although the short-term need for dollar funding has caused a spike in the dollar's exchange rate, iTulip expects significant capital flight to result from this crisis in the long run.
So, returning to the original question of what happens if Americans stop consuming and start saving, here's what I think. The government tries to get Americans to resume consuming by giving them money directly and by increasing the supply of credit. Separately, the government replaces some of the private demand with public spending. If Americans persist in trying to save rather than spend -- and if the government stimulus doesn't itself lead to inflation -- then as a last resort the government can choose to create inflation to get savers to spend. As I recently summarized here (http://www.itulip.com/forums/showthread.php?p=57874#poststop), the inflationist view is that the government reflation policies themselves are likely to overshoot, creating inflation directly through expansion of the money supply, and are also likely to promote capital flight because the deficit spending makes eventual monetization of the federal debt more likely. In the same post, I point out that the reflation policies need not necessarily overshoot, as the government does technically have the means to sterilize the loans it makes to increase access to credit, and it can also reduce the money supply later. I also point out that although the trend was away from the dollar prior to this crisis, it does not necessarily follow that the trend will continue post-crisis. (Some who post to iTulip take the view that the Fed will manage the money supply in such a way as to avoid significant inflation, and that by demonstrating how export-based economies seize up when the system is starved of dollars, this crisis will increase the importance of the dollar, rather than resulting in capital flight from the dollar.) Although I think significant inflation and a weaker dollar are likely, I am not a true-believer myself, and I'm watching to see who is actually right about the outcome. As for the deflationists... I have nothing to add to the criticisms in the posts linked above. I think the most basic issue is that if there's a policy choice to be made between a deflationary depression and inflation, then the government will choose inflation -- and the government can always create inflation if it needs to.
One more item, I probably mangled MISH's message - he did say that deflation at this time wasn't possible due to the national debt. The rest was my expansion and maybe inaccurate. I'm not a true believer in either camp but am just seeking information to build an opinion.
Again, I can't say I know MISH's position, so I might be responding to a strawman argument.
One possible claim is that in order to pursue inflationary policies (e.g. reducing taxes, handing out money, and increasing public spending), the government will need to fund some very large deficits by borrowing. Someone in the deflationary camp might claim that since America's national debt is large -- and since inflationary policies tend to devalue the dollar -- the government might be unable to find willing buyers for its bonds, and therefore will be unable to borrow the money and engage in the required deficit spending. This line of reasoning might also say that the government will prefer to suffer through a deflationary depression rather than create inflation by monetizing the debt (selling bonds to the Federal Reserve rather than the public), because that is currency suicide, and it will destroy our ability to borrow in the future, as well as force an abrupt equalization of trade (because vendor financing will no longer be available).
I think someone making that argument has the order of events wrong. Right now, it looks like we'll be able to do the borrowing necessary to pursue inflationary policies, but that doing so will put us into a position where the dollar weakens, and future borrowing becomes expensive. Before all this borrowing, our debt:GDP ratio was bad, but not as bad as some other leading industrialized countries (like Japan). So, I think the deflationist argument surrounding the debt is that we won't be given enough rope to hang ourselves, but it sure looks to me like there will be enough rope.
As for whether monetization will be used as a last resort... I think the consequences are so awful that there is legitimate room for debate. Still, I believe that the inflationists have convincingly demonstrated that there is a policy bias to avoid another deflationary depression at all costs, so I still come down on the side of inflation on this one.
metalman
11-02-08, 11:48 AM
Again, I can't say I know MISH's position, so I might be responding to a strawman argument.
One possible claim is that in order to pursue inflationary policies (e.g. reducing taxes, handing out money, and increasing public spending), the government will need to fund some very large deficits by borrowing. Someone in the deflationary camp might claim that since America's national debt is large -- and since inflationary policies tend to devalue the dollar -- the government might be unable to find willing buyers for its bonds, and therefore will be unable to borrow the money and engage in the required deficit spending. This line of reasoning might also say that the government will prefer to suffer through a deflationary depression rather than create inflation by monetizing the debt (selling bonds to the Federal Reserve rather than the public), because that is currency suicide, and it will destroy our ability to borrow in the future, as well as force an abrupt equalization of trade (because vendor financing will no longer be available).
I think someone making that argument has the order of events wrong. Right now, it looks like we'll be able to do the borrowing necessary to pursue inflationary policies, but that doing so will put us into a position where the dollar weakens, and future borrowing becomes expensive. Before all this borrowing, our debt:GDP ratio was bad, but not as bad as some other leading industrialized countries (like Japan). So, I think the deflationist argument surrounding the debt is that we won't be given enough rope to hang ourselves, but it sure looks to me like there will be enough rope.
As for whether monetization will be used as a last resort... I think the consequences are so awful that there is legitimate room for debate. Still, I believe that the inflationists have convincingly demonstrated that there is a policy bias to avoid another deflationary depression at all costs, so I still come down on the side of inflation on this one.
well reasoned, as always. there is always the possibility that the fed has something up its sleeve we have not thought of. these central banks are thick as thieves. never would have guessed that the fed was gonna buy brazil's bonds to slow the crash of the real. so who knows what they might do before they have to do anything so old school as debt monetization. that may be many years away.
The SPDR Gold Shares yahoo newsgroup has a good thread here (http://messages.finance.yahoo.com/Stocks_%28A_to_Z%29/Stocks_S/threadview?m=tm&bn=72878&tof=14&rt=2&frt=2&dir=b&ri=54097&n=yJKx18RfdiO_3R6y0B_x1w--) discussing this thread.
uranian
11-02-08, 03:39 PM
consumer credit is increasing at around 5% annualised. consumer debt repayment as a % of disposable income is falling sharply. i can see repayments falling if debt is decreasing (ha), or if income is rising (ha). so then what gives?
781
782
in regard to the great flation debate, a common theme among deflationists seems to be that debt has become so great (350% of gdp) that consumers are unwilling/unable to take on new debt (banks (http://georgewashington2.blogspot.com/2008/10/even-banks-admit-theyll-keep-on.html) report unwillingness to lend on top of that, though bart's chart of interbank lending suggests they're lying), thereby sending fractional reserve money creation into reverse. only possible solution to that is for governments to simply give cash to consumers, as both the US and now japan (http://www.telegraph.co.uk/news/worldnews/asia/japan/3286794/Japans-desperate-260bn-bid-to-kick-start-economy.html) have done. but another head ache is that real estate lending is actually expanding, regardless of the housing crash:
783
makes no sense to me :)
friendly_jacek
11-02-08, 07:02 PM
consumer credit is increasing at around 5% annualised. consumer debt repayment as a % of disposable income is falling sharply. i can see repayments falling if debt is decreasing (ha), or if income is rising (ha). so then what gives?
781
782
in regard to the great flation debate, a common theme among deflationists seems to be that debt has become so great (350% of gdp) that consumers are unwilling/unable to take on new debt (banks (http://georgewashington2.blogspot.com/2008/10/even-banks-admit-theyll-keep-on.html) report unwillingness to lend on top of that, though bart's chart of interbank lending suggests they're lying), thereby sending fractional reserve money creation into reverse. only possible solution to that is for governments to simply give cash to consumers, as both the US and now japan (http://www.telegraph.co.uk/news/worldnews/asia/japan/3286794/Japans-desperate-260bn-bid-to-kick-start-economy.html) have done. but another head ache is that real estate lending is actually expanding, regardless of the housing crash:
783
makes no sense to me :)
It makes sense to me:
1. debt repayment is dropping as people are stopping payments or being foreclosed. The chart you provided showed similar behavior in the last housing crisis 1990-93.
2. real estate lending chart shows lower trend, if you smooth the curve. Again similar to 90-93.
friendly_jacek
11-02-08, 07:12 PM
The Fed can't make consumers borrow it! The Fed can't make banks lend it! If that were the case then the CPI wouldn't be falling. That's the measure of all that money chasing goods and raising prices, not languishing in bank accounts. Here's where we'll find our deflation. All the Fed's printing is for naught.
http://www.itulip.com/images/cpi010108-0929-08.gif
Well whaddaya know. The CPI after falling for a couple of months is up again.
But that's temporary, a lagging indicator. That's inflation from before the recession set in when demand was still high. That's the last we'll see of inflation! And to prove it, we'll look at inflation expectations priced in to inflation-indexed Treasury bonds (TIPS).
Ha, ha, ha.
Funny and clever. It would be even funnier if it was actually correct. Fred, you could improve your chart reading skills.
The CPI is not up again. The rate of change is still negative meaning deflation. The rate of change went up slightly from -0.4% to -0.2% so I guess you can call it disdeflation if you wish.
I'm not going to cover the TIPS issue as it was covered by Finster elsewhere.
metalman
11-02-08, 07:23 PM
Ha, ha, ha.
Funny and clever. It would be even funnier if it was actually correct. Fred, you could improve your chart reading skills.
The CPI is not up again. The rate of change is still negative meaning deflation. The rate of change went up slightly from -0.4% to -0.2% so I guess you can call it disdeflation if you wish.
I'm not going to cover the TIPS issue as it was covered by Finster elsewhere.
actually, you both got it wrong. the chart shows monthly data and that's august not sept.
tell you what cranky_jacek, if the numbers for sept. turn out to be in fact inflation vs deflation will you quit your whining?
also, what are these data? here are the bls site 2008 cpiu numbers...
2008 01 4.867
2008 02 0.283
2008 03 4.200
2008 04 2.504
2008 05 8.089
2008 06 13.423
2008 07 10.280
2008 08 -1.630
2008 09 -0.383
big, fat inflation numbers for june and july. some deflation in aug., less in sept.
place your bets, gents, on oct.
let me guess... if it's down it's 'deflation' if it's up it's 'that bls data is shit'
you, phrang and symbols ought to petition fred to start a trolls forum.
So, it isn't interbank lending then, it's all about derivatives of mass destruction. This has brought down the banks, has it? Makes sense.
But, if interbank lending is still going on, or is even higher, then the banks must trust each other. Why are their share prices in the toilet? Why are they being nationailzed? Why did I read in the Irish Independent that the Irish government had to give the blanket guarantee to save Anglo-Irish and several very large companies connected to it from disappearing?
Help me make sense of this.
Maybe it's not about current debt being issued, but the ability of expontential new debt which must be issued for the system to survive, now cannot be. Derivatives may have saved their 2004 asses, but maybe now it's come to its end.
Maybe it's the expontential system which is at its end.
You got it on derivatives - they've been the main issue and problem all along. The "credit crisis" and interbank lending are both relative diversions in my opinion away from the facts that the major banks are basically insolvent when using real and honest accounting.
Their shares are way down due to their very poor balance sheets, and they're being nationalized to "save the system" and also to shore up confidence in the underlying currencies (which are also one key measure of the underlying governments themselves). Other factors like crony capitalism enter into the explanation too.
If you listen to the 1st portion of the Richard Koo presentation ( http://www.csis.org/component/option,com_csis_events/task,view/id,1828/ ), you'll hear him relate some of his experiences when he was with the NY Fed during a major banking crisis in the early 1980s and how they hid the facts so as not to affect the entire system. Its much worse now than then, as witness among other things the huge injections by central banks and governments virtually world wide.
One other very broad definition of "money" being an "idea backed by confidence" may also help you put it into perspective.
Down Under
11-03-08, 04:48 AM
tell you what cranky_jacek, if the numbers for sept. turn out to be in fact inflation vs deflation will you quit your whining?
...
big, fat inflation numbers for june and july. some deflation in aug., less in sept.
place your bets, gents, on oct.
let me guess... if it's down it's 'deflation' if it's up it's 'that bls data is shit'
you, phrang and symbols ought to petition fred to start a trolls forum.
Hey, metalman, is it safe to assume you're in the inflation camp...
Good post, gave me a chuckle or two.
metalman
11-03-08, 05:32 AM
Hey, metalman, is it safe to assume you're in the inflation camp...
Good post, gave me a chuckle or two.
been here since the dot com bubble, before the last deflation scare, before that term was invented. itulip calls it 'ka' here out of kapoom theory. refers to post bubble disinflation before the government steps in to wreck our currency and... as it turns out... our entire friggin economy with this goddamn housing bubble. what a pack of assholes.
anyone who thinks the gov't can't create inflation is flat out stupid. that's like saying the sun can't make heat. shit, that's all if can do, that's what it's designed to do, by degrees more high heat or less high heat but always heat.
i bet there is not one single person on earth with background in accounting that believes in deflation. if you understand double entry bookkeeping you understand why deflation cannot happen. there is no limit to the size of the 'assets' number the fed can add to its balance sheet. none. just look at what they've done this year!!! 80% of the actions by the fed and treasury that the deflationists said years ago was 'impossible' and then some, like printing money to inject capital directly into banks, have already happened. why not the other 20%? why should i listen to guys who have been wrong, wrong, wrong, wrong, wrong, wrong?
then there are those with a least a little understanding of economics... devalue your currency... the foolproof way out of deflation if all else fails.
Actually Tips yields going up is a sign of deflation. The lower yields go the more demand from the market for protection from inflation. The tips market is currently pricing deflation out to the 8 year part of the curve. The current market expected inflation over the next 10 years as implied by the Tips market is .84% inflation.
metalman
11-03-08, 08:30 AM
Actually Tips yields going up is a sign of deflation. The lower yields go the more demand from the market for protection from inflation. The tips market is currently pricing deflation out to the 8 year part of the curve. The current market expected inflation over the next 10 years as implied by the Tips market is .84% inflation.
if deflation then 10 yr bond yields would be falling, too. but they are rising. you can't argue it both ways... tips prices are falling due to future deflation while bond prices are falling due to what? future deflation? makes no sense. here's a better explanation... (http://itulip.com/forums/showthread.php?p=58581#post58581)
phirang
11-03-08, 09:07 AM
What I find so incredibly amusing is that the real catalyst for reflation is totally overlooked by the analysis presented.
phirang
11-03-08, 09:12 AM
if deflation then 10 yr bond yields would be falling, too. but they are rising. you can't argue it both ways... tips prices are falling due to future deflation while bond prices are falling due to what? future deflation? makes no sense. here's a better explanation... (http://itulip.com/forums/showthread.php?p=58581#post58581)
t-notes suck, yet t-bills are doing super-well.
inflation is not part of the trade here: this is pure fear.
Actually treasury yields are in a range. The 10 year has essentially been in a range of 3.4-4% this year and all yields remain lower YTD. Can easily have the case where yields rise due to increased supply without concern that inflation is eroding value. Also, lots of essentially government guaranteed products can crowd out treasury notes (Agency debt, debt of too big to fail banks, FDIC paper etc.) and lead to higher yields.
friendly_jacek
11-03-08, 11:48 AM
You got it on derivatives - they've been the main issue and problem all along. The "credit crisis" and interbank lending are both relative diversions in my opinion away from the facts that the major banks are basically insolvent when using real and honest accounting.
That would totally make sense. Derivatives were the WMD that exploded sept and oct and all the gov and fed could do was to squirt their inflation water as fast as they could pump on the atomic deflation blast. Now, as the big chunk of global economy is turned into ashes and smoldering, sure they can extingish some of the flames for a time being, but look out for an aftershock in several months.
labasta
11-04-08, 06:19 AM
Thanks Bart,
I had suspected that the European and US banks were insolvent due to dodgy Enron style accounting. I wasn't sure what had caused the losses to be covered up by the dodgy accounting. I emailed a friend last week saying that I thought the US was one giant Enron waiting to happen. Well it has happened in a way, but they just managed to cover their asses, but what about next year? What about the coming year?
A lot of derivative insurance must have been called in at the end of September to cause such a shit storm. Oh well, bye bye banks. Thanks for the party (which I didn't participate in).
Why don't they just annul the derivative contracts completely? What would be the consequences?
Thanks Bart,
I had suspected that the European and US banks were insolvent due to dodgy Enron style accounting. I wasn't sure what had caused the losses to be covered up by the dodgy accounting. I emailed a friend last week saying that I thought the US was one giant Enron waiting to happen. Well it has happened in a way, but they just managed to cover their asses, but what about next year? What about the coming year?
A lot of derivative insurance must have been called in at the end of September to cause such a shit storm. Oh well, bye bye banks. Thanks for the party (which I didn't participate in).
Why don't they just annul the derivative contracts completely? What would be the consequences?
I do urge some caution on your conclusion. Banks have been insolvent many many times over the decades and most have pulled through, as Koo noted about the problems in the early 1980s in that video.
Lots will go under this time around too, much like the S&L crisis and other periods too. Lots have also been wrongly rescued too, especially recently. Who knows when or if we'll truly have a massive SHTF or TEOTWAWKI situation too... and the only answer I have is to cover your keister as best you can and only use banks that have reasonably clean balance sheets and are well managed by reasonably ethical folk, etc.
As far as annulling the contracts, much has already been done - something like $20+ trillion of CDSs have disappeared recently via the two parties getting together and willingly cancelling them.
I do have opinions on what would happen if they were all annulled but prefer to avoid the area for now, partially because my data is incomplete.
I can offer one perhaps helpful illustration though - let's say that you were long a gold futures contract (which is a derivative) or even a bunch of GLD (which is a derivative) as part of your long term planning & CYA actions... and they were annulled?
Hi BDS4. I think inflation vs. deflation scenarios have been more ably analyzed than I could (http://www.itulip.com/forums/showthread.php?t=4359&highlight=inflation+deflation) by others -- ad nauseam -- in previous iTulip threads (there are links to several such threads in this (http://www.itulip.com/forums/showthread.php?t=4377&highlight=inflation+deflation) post). You and I are in mortal danger of being tersely directed to take it elsewhere (http://www.itulip.com/forums/forumdisplay.php?s=&daysprune=&f=24) by exasperated senior iTulipers who have seen this topic hashed over repeatedly already (although we may be granted some leniency, since FRED started the thread). That said, I'm happy to talk about it, because I haven't personally attempted an expository summary of the issue before. Here's my summary of what I've read.
So, the question is -- what will happen if Americans start saving and stop spending? I'm going to ignore the behavioral aspect of this issue (whether American culture really would switch from consumption to saving, if offered "free money" to continue spending) and take that as a stipulation. Absent effective government intervention, and absent global markets, there would indeed be a deflationary recession. It would be deflationary because of reduced demand from private consumers (less money chasing goods, services, and assets), and it would be a recession because reduced demand begets reduced economic activity (which could reduce demand further, as jobs are lost... and so on). However, there is government intervention, and there is a global market.
Government intervention can take several forms. The government can mail citizens tax rebate checks, or bump up unemployment benefits, or find other ways to put public funds in the hands of consumers. The government can also create money in the banking system and reduce the cost of credit to encourage banks to increase lending. Either of these measures will create some demand indirectly, although if the American people have truly given up excessive consumption cold turkey, then these measures will only serve to replace some of the consumer demand for necessities that is lost as a result of personal insolvency. Cheaper credit can also fuel borrowing for investment, but there is no guarantee that the investment will be domestic. You could get another asset bubble going, but it might be overseas. Japan's mild but lengthy recession is the poster child for "pushing on a string" -- a case in which domestic demand from a nation of savers did not rise much in response to cheaper lending, and the investment which was engendered was mainly overseas (the yen carry trade). This is more likely to be a problem once deflationary expectations (the belief that saved dollars will be worth more tomorrow than today) become entrenched, which is one reason the government will try like the dickens to reflate.
Faced with a population of savers, the government can also directly create demand, serving as the consumer of last resort, through increased public spending. The government can also institute capital controls (e.g. taxes on foreign investment) and tax preferences to discourage a carry trade from developing. Finally, the government can intentionally devalue its currency in a bid to increase export activity and reduce foreign competition with domestic industries. (Protectionist policies of this type are not generally productive, as they tend to reduce both the volume of trade and economic efficiency -- but that's not to say the protectionist policies aren't tried.) In extremity (deflationary expectations have set in, despite the government's best efforts to reflate), the government can intentionally create inflation by outright debasement of the currency (e.g. through monetization of the government's own debts). This means that the government would pay its bills by creating money directly, rather than collecting taxes or borrowing from the public. This would be the ultimate catalyst to get people to spend rather than save, because this would massively devalue the dollar, creating inflation and the expectation of future inflation. Expectations of inflation mean that savers expect the purchasing power of their savings to drop over time, which gives them an incentive to spend today rather than save for tomorrow. (Note, however, that monetization of the debt is basically currency suicide, so it would only be used as a last resort, in the face of a Great Depression type scenario or actual federal insolvency. The other types of government policy I outlined are also inflationary, and would be tried first because the government has a better chance of staying in control of the situation.)
Aside from the potential for a carry trade and the possibility of trade wars, the existence of global markets also entails the large-scale movement of capital in to and out of the American economy. In the midst of a global financial crisis, you would expect international capital to seek a safe haven. If dollar-denominated American assets look more likely to hold their value than various alternatives -- judged in the currency of foreign investors -- then you would expect foreign capital to flock here. That would entail the exchange of foreign currency for dollars to buy the assets, creating higher demand for the US dollar, which would have a deflationary impact on the economy. Conversely, if dollar-denominated assets look like a worse risk to potential foreign investors -- for instance, because of suspicions that the US will be unable to honor its debts without devaluing its currency, or because the growth prospects for the US economy are judged to be worse than foreign alternatives, or because of suspicions that the US will intentionally devalue its currency to get people to spend rather than save -- then you would expect capital flight. This would result in a flood of dollars, as dollar-denominated assets are sold and the dollars are exchanged for other currencies. I believe this dynamic is the main reason why iTulip says deflation is unlikely to result from this crisis. As a net debtor with a large current account deficit, flatlined savings rate, and skyrocketing public debt, the United States makes a poor destination for flight capital. Although the short-term need for dollar funding has caused a spike in the dollar's exchange rate, iTulip expects significant capital flight to result from this crisis in the long run.
So, returning to the original question of what happens if Americans stop consuming and start saving, here's what I think. The government tries to get Americans to resume consuming by giving them money directly and by increasing the supply of credit. Separately, the government replaces some of the private demand with public spending. If Americans persist in trying to save rather than spend -- and if the government stimulus doesn't itself lead to inflation -- then as a last resort the government can choose to create inflation to get savers to spend. As I recently summarized here (http://www.itulip.com/forums/showthread.php?p=57874#poststop), the inflationist view is that the government reflation policies themselves are likely to overshoot, creating inflation directly through expansion of the money supply, and are also likely to promote capital flight because the deficit spending makes eventual monetization of the federal debt more likely. In the same post, I point out that the reflation policies need not necessarily overshoot, as the government does technically have the means to sterilize the loans it makes to increase access to credit, and it can also reduce the money supply later. I also point out that although the trend was away from the dollar prior to this crisis, it does not necessarily follow that the trend will continue post-crisis. (Some who post to iTulip take the view that the Fed will manage the money supply in such a way as to avoid significant inflation, and that by demonstrating how export-based economies seize up when the system is starved of dollars, this crisis will increase the importance of the dollar, rather than resulting in capital flight from the dollar.) Although I think significant inflation and a weaker dollar are likely, I am not a true-believer myself, and I'm watching to see who is actually right about the outcome. As for the deflationists... I have nothing to add to the criticisms in the posts linked above. I think the most basic issue is that if there's a policy choice to be made between a deflationary depression and inflation, then the government will choose inflation -- and the government can always create inflation if it needs to.
Ash, thanks again for a very informative response. It makes a lot of sense.
vBulletin® v3.7.0, Copyright ©2000-2009, Jelsoft Enterprises Ltd.