You're not going to believe this
Mike (Mish) Shedlock sent me an email today to let me know that he's mentioned me in his latest column, "Yes Virginia, U.S. Back in Deflation; Inflation Scare Ends; Hyperinflationists Wrong Twice Over."
While I prefer to avoid getting into arguments with Mish as they tend to go nowhere, and as our argument on deflation was settled in 2009 as far as the facts are concerned, in this case the misrepresentation of the facts of our debate on deflation and the outcome of it are so egregious in this his most recent article, and the size of the audience for this misrepresentation of fact so large, that acquiescence by silence was unfortunately not an option for me. Further, Mish went to the trouble to send me an email to alert me to the offending article, which for reasons only known to him he thought I'd find flattering. If not for his direct contact I'd most likely have let it go. Here is my response.
First of all, please try to spell my name correctly. I'm an electrostatic loudspeaker Janszen, not a swimsuit Jantzen. You know, the name all over my web site and on the cover of my book?
Not so hard to find.
Second, you're doing what the mainstream media does: framing the debate between two false extremes without the context of a chain of causation that led up to the event in question.
Deflation versus hyperinflation was a junk debate before the deflation case was disproved. Now, after the deflation case has been disproved, persisting with it is simply ludicrous. As there is no possibility of deflation, the only valid topic for debate is and always has been since we got into this in 2006:
What kind inflation are we going to have?
But if you insist, here is the argument yet again, after the fact, hopefully for the last time, although I don't see why it's necessary to rehash it. Events have already proven out my argument that we won't have a deflation spiral and that we'll instead experience a form of stagflation as the dollar weakens, food and energy prices rise, but the jobs market remains awful. That's what is happening now.
Your argument for a depression and deflation spiral was flat out wrong.
It was founded on a number of fallacies that you continue to believe in.
For example, we do not have a fiat money system. We have a hybrid public (government) and private credit money system and have since the 1930s.
Under that system sustained periods of money supply contraction and price deflation don't happen.
Look at the data going back to 1913.
The first thing you'll notice is that the history of inflation and deflation is mostly of inflation. Deflation is a rarity. Sustained periods of deep deflation even more rare, occurring only twice in the past century: right after WWI and during the first three years of The Great Depression.
High inflation and wars go hand in hard. The US government, as every government does during wartime, bets that expanding the purchasing power of the state to finance war at the expense of consumers is a safer bet than taking a chance that without the additional spending the war might be lost. In other words, during war inflation discipline takes a back seat to survival. It's my opinion that this argument will come up again in the not too distant future, to provide the political cover to justify a higher inflation rate, but that's a story for another day.
Notice that deep and prolonged consumer price deflation has not occurred once since the end of the national gold standard, that is, the backing of domestic money supply by a fractional gold reserve.
You can look at data for every country on earth and see the same thing: no sustained and deep deflation anywhere on planet earth since the US in 1933.
In fact, even during the first years of The Great Depression, those countries that went off the gold standard didn't experience deflation. Sweden, for example. This chart is from Irving Fisher's 1934 "Debt Deflation theory of Great Depressions." I'll get to your misunderstanding of the term Debt Deflation later.
By exiting the gold standard at the onset of the depression, Sweden avoided deflation completely. It helped that Sweden did not have a gigantic credit bubble in the 1920s and so didn't have as severe a debt deflation problem as the US had in the 1930s. As a result of both dropping the gold standard and the limited debt deflation, Sweden actually experienced moderate inflation during the early years of the depression, as you can see in Fisher's retail price data above.
You can also clearly see that once the US exited the gold standard in 1933 and repriced the dollar against gold, inflation shot up rapidly to pre-depression levels.
The clear and indisputable relationship between the gold standard and deep and prolonged deflation is not hard to explain.
When the private credit markets seize up as they did following the great crash of 1929 and again in 2008, the central bank can expand the money supply by making ledger entries on both the assets and liabilities sides of the central bank's balance sheet.
Under a gold standard, the legal requirement to have physical gold backing entries to the liabilities side of the ledger limited the ability of the central bank to do this. That's the whole point of the gold standard, to remove the option of politicians to pressure the central bank into generating seigniorage revenue from money creation when tax and borrowing revenues fall short. Without the legal requirement to have gold reserves backing the central bank's ledger entries, the process of expanding the money supply is as simple as writing numbers down on the ledger and communicating the transaction to member banks, or today by typing the numbers on a keyboard and hitting "send."
I understood this in 2007 before the collapse when you and I were arguing about deflation or inflation as an outcome of the collapse, which we both expected.
I said that no prolonged period of deflation was going to happen because the US is not constrained by the gold standard.
I told you the following 1930 to 1933 scenario is impossible today:
I told you that instead we'd get a brief period of deflation that I called disinflation followed by a return to trend growth rate consumer price inflation. You said we'd have a prolonged deflation -- in the money supply and in prices -- much as in the 1930s.
By August 2009, my forecast was proved 100% accurate and yours wrong:
A brief deflation followed by inflation is what I forecast and is exactly what happened.
Your forecast of a deep and long lasting period of deflation did not happen.
While we're on the topic of gold and inflation, it's worth noting that after the US exited the international gold standard in 1971 the trend rate of consumer price inflation turned sharply up. The international gold standard was an international agreement to fractionally back foreign liabilities with gold. The US unilaterally abrogated this agreement during the Nixon administration when France led a US Treasury gold "run on the bank" soon after the US current account, in surplus for the nation's history, began to show a deficit. Freed from the constraint of the international gold standard, the US has run large trade deficits ever since, and has paid for the privilege with higher consumer price inflation.
Prolonged and deep price deflation has not, will not, and cannot occur under our money system. I will gladly send you a plaque that you can put on your desk that reads: "No gold standard. No deflation." You can refer to it when the question crosses your mind and we won't have to go over this again and again.
"But wait!" you'll say, waving your hands around. "You're talking about falling prices! Falling prices aren't deflation!"
This brings me to my third issue with your tortured argument that deflation is occurring: your definitions are nonsensical.
"Many if not most economists, especially Keynesians, think of inflation in terms of prices.There is no confusion between the Keynesian and Austrian interpretations of the concept of inflation, on whether the money supply or prices are more relevant as measures of inflation. Both are equally relevant in economics in the way that the force of gravity and weight are equally relevant in physics. Saying "The money supply is a better indicator of inflation than prices" is like saying "The force of gravity is more relevant than weight." Weight is how we measure the force of gravity on an object. Producer and consumer prices are how we measure the impact of inflation on the economy.
"In contrast, Austrian-minded economists generally have definitions similar to mine except most of them fail to properly include credit in their analysis. Austrians in general look at money supply alone, and that is a huge mistake."
Think of it this way. The force of gravity acts on your body. When you get on a scale it measures that force in pounds. Same with the money supply and prices. If the supply of money increases faster than the demand for that money by consumers to use to purchase a fixed supply of goods, you can measure that this is occurring in the rising prices of those goods. This is why central banks are always watching the price level and talking about prices. The units of a price index are like the units of pounds on a scale that measures the result of a rise or fall in the money supply relative to the demand. In fact, if inflation and deflation don't cause prices to rise or fall, what relevance do they have? Who'd care?
But there are two significant differences between the relationship between gravity and weight versus inflation and prices.
One, in the case of gravity and weight, gravity is fixed here on earth. The reading on a scale goes up or down -- typically up around Thanksgiving -- when our mass increases. With inflation and prices, both the "mass of the object," the supply of goods, and the "force of gravity," the money supply, are constantly changing. Both cause the readings of "weight" on the price scale to change. This leads to a great deal of confusion in the interpretation of the causes of price changes.
Is the price of oil going up because the demand for oil is rising relative to supply or is the demand for money used to purchase oil falling relative to the supply of money, thus lowering the purchasing power of each unit of money?
In the short term, no one can say, but over time it can be determined whether the price rise of oil from $60 to $100 over several years was 20% due to a weaker dollar and 80% due to rising demand for oil ahead of supply, or the other way around.
Two, if you add mass to an object the fact shows up immediately on the scale but the event of the money supply growing rapidly ahead of demand is not immediately reflected in consumer price inflation. There is an enormous body of research on all of the factors that relate inflation to prices because, unfortunately, unlike a scale that measures the force of gravity there is no direct way to measure inflationary forces in an economy. It is not an exact science, and we all know that the government inflation figures are politicized. But no one disputes the fact that when the money supply gets too big for the economy and stays that way for too long that consumer price inflation follows, sooner or later, and conversely if the money supply is too small then prices eventually fall.
Your confusion of cause and effect is not limited to the relationship between the money supply and inflation.
"I have had many feuds with Eric Jantzen (sic) at iTulip regarding deflation. He makes a distinction between deflation and debt-deflation. From a practical standpoint, in a fiat credit-based economy, debt-deflation is deflation."No. The word "deflate" simply means "to diminish." The term "debt deflation" refers to the condition of a shrinking level of credit outstanding because households and businesses are repaying existing debt faster than they are taking on new debt. This is related to the money supply and indirectly, through changes in the money supply, to consumer price inflation. But deflation and debt deflation are not equivalent.
The way the government manages debt deflation iof private credit is via monetary inflation created by the central bank and via deficit spending by the federal government.
When consumers, businesses, and the credit markets are not lending new money into existence, the government and the central bank step up their lending, and lend one to the other, to expand the money supply.
In one of our earlier debates I explained this to you with the following diagram. It shows money flows from credit transactions flowing through the economy from five sources: consumers, credit markets (bond markets, securitized debt, etc.), the central bank, the government, and businesses.
You may also recall that I modified this diagram to show the the government stepping in to lend when the private credit markets were out of it.
And, again, that is exactly what happened. My forecast of the government fighting household and business debt deflation, and thus a declining money supply, by expanding government debt was confirmed by March 2009. Per the Fed Flow of Funds, household (consumer), business and even state and local debt growth was negative. Only the Federal government was expanding debt:
And it's still going on. Here we see the government buying consumer loans to compensate for debt deflation in consumer credit.
When you can't come up with your own personal definition of inflation that conforms to your incorrect forecasts of actual events, you re-write your old arguments.
Mike, you called for deep and long lasting deflation. Now you are saying that you've been arguing all along for a brief period of deflation followed by more inflation as I did?
Jantzen (sic) does not see it that way, preferring to call the effect "disinflation". However, a rose by any other name is still a rose and some of my arguments with Jantzen are best described as "violent agreement" about what is happening but disagreement about what to call it.
No you did not.
1. The debt pyramid will implode.The reason you and I disagreed is because I said:
2. The Federal Reserve will not be able to stop this.
3. There will be serious, bankrupting, depression-creating monetary deflation.
4. There will be long-term price deflation.
1. The debt pyramid will implode.See the difference between our arguments? They are, except for the antecedent, completely opposite.
2. The Federal Reserve will be able to stop this.
3. There will be no serious, bankrupting, depression-creating monetary deflation.
4. There will be no long-term price deflation.
Which forecast proved to be right and which one was wrong?
I not only told you that money supply contraction and consumer price inflation will be brief, but I specifically said with respect to the policies that were to be used to halt deflation:
- Dollar depreciation will be the cornerstone of inflation creation (deflation management) policy
- This will cause energy and food prices to rise, and eventually consumer prices as well
- Yet unemployment will remain high as there is no viable economic recovery plan to compensate for the loss of stimulus from asset bubbles
- Weak labor markets will keep wages from being a transmission mechanism of inflation from consumer prices at first, but keep an eye on labor movements, strikes, and so on to change that
- As a result, consumers will be squeezed between rising food and energy prices and flat or declining wages
- Producers will be squeezed by high input costs and with weak consumer demand will reduce package sizes and goods ad services quality to retain profits.
The process in fact occurred as I described it.
You go on to say:
Moreover, I have nothing but praise for Jantzen's (sic) call back in 2002 "buy gold and hold on to it". He explicitly said gold, not miners, not CALLs, not other equities. The long-term trendline of gold is intact. The only other intact long-term trendline is US treasuries.Close. I took a 15% position in gold in August 2001 @ $270 after publishing the article Questioning Fashionable Financial Advice: Gold
Next you say:
Janstzen (sic) got the gold portion of his macro-call correct. Jantzen also managed to include some "debt-deflation" analysis in his thinking, something most of the Austrians failed to do altogether.Private sector debt deflation means more government borrowing and money printing. That's why gold prices keep going up.
You favor gold too, but for the wrong reasons. You think gold prices will rise when the money supply is contracting and the economy is in deflation.
That's backwards. If deflation had in fact occurred, gold prices would have plummeted. Gold prices went up because reflation via monetary and fiscal policy measures succeeded, contrary to your assertion (see "The Federal Reserve will not be able to stop this").
If you made any money on gold it's because you got lucky, like a man who bets money that the sun is going to rise in the east not because the earth is rotating on its axis but because he thinks the sun revolves around the earth.
I do not know Jantzen's (sic) record on treasuries. I do know mine. When the price of crude was $140 I called for record low treasury yields across the entire yield curve and most people thought I was crazy. I certainly missed the strength of the rebound in equities in 2010, but that chapter is still not closed as should now be readily apparent.Private sector debt deflation and ever more government borrowing and money printing is why gold prices keep going up and it's also why bond prices keep going up.
My record on Treasuries is a google search away.
From 100s of articles on iTulip since 1999, here is a summary of my portfolio over the past decade:
- From 2000 to 2001, 25% cash, 75% 10-year Treasury bonds
- From 2001 to Aug. 2010, 10% cash, 15% gold, 75% 10-year Treasury bonds
You can see my portfolio modeled here in detail by my friends over at Twin Focus Capital Partners versus two benchmarks, with all of the usual disclaimers (e.g., hypothetical). It was my portfolio and everyone who has read iTulip since 2001 knows it.
By every measure -- return on risk, total return, batting average, drawdown, etc. -- my portfolio beat the benchmark allocations handily, and without making a single trade in 10 years.
I'm not sure when you got on the Treasury bond bandwagon, but welcome aboard. I've been on it publicly for 11 years. By the way, it will soon be time to get off.
Finally, Jantzen's (sic) definition of inflation pertains to the purchasing power of the dollar and prices of goods and services. By that definition, Jantzen (sic) has been generally correct. Prices, have generally gone up except for very short periods of time.During periods of deflation, purchasing power rises and falls during periods of inflation.
This is a simple fact, like the orbit of the earth, not a topic for debate, like who's going to win the contest on the next America's Got Talent show.
However, and as I have pointed out, prices of goods and services is not what has mattered most. Trillions of dollars wiped out in housing and the debt-deleveraging that continues is still is far more important to the economy than prices of food and energy. In addition to your confusion about the nature of our money system, the relationship between the money supply and inflation, and the relationship between public and private credit, the fatal flaw in your analysis that causes you to continue to chase the deflation fairy and make dead wrong economic forecasts is that you do not distinguish between credit and money in the financial economy as it relates to asset price inflation and credit and money in the productive economy as it relates to goods and services price inflation and wage rates.
If you did, then you'd be able to forecast asset price deflation the housing and stock markets coincident with producer price inflation instead of coming up with your own personal definitions of inflation and deflation and re-writing your past predictions.
- No gold standard, no deflation.
- Inflation is a process that starts with too much money and ends with higher prices.
- You predicted a persistent deflation. Whether you meant deflation in the money supply or consumer prices, you were wrong.
- You argued for buying gold but for the wrong reasons. You got lucky.
That about covers it.
Oh, yes. One more thing.
Okay. Are we finally done with this?
Addendum (Aug. 17, 2011)
The most recent PPI (Producer Price Inflation) numbers for July 2011 were issued today. As expected, Fed policy to prevent asset price deflation in the FIRE Economy is resulting in consumer price inflation in the Productive Economy. This can be clearly seen in food prices over the past seven months.
For example, in January of this year, annual price inflation for crude inputs into food manufacturing was 20%, for intermediate inputs 6%, for finished foods 4%, and consumer price inflation for food was 2%.
As of July 2011, annual price inflation for crude inputs into food manufacturing was 28%, for intermediate inputs 13%, for finished foods 8%, and consumer price inflation for food was 4%. The inflation rate for finished consumer foods and consumer prices of food has doubled in seven months as high and rising input price inflation works its way from producers to consumers.
The inflationary trend over the past seven months is unmistakable. Food prices are not "volatile." Rather, the price inflation has been continuous.
In my next subscriber article I explain in detail how Fed and fiscal policy is producing this result, as we forecast in 2008.
The Fed's bind is that it needs to expand money and credit to prevent asset price deflation in the FIRE Economy from spilling over into the Productive Economy. This is accomplished via zero interest rate policy (ZIRP), quantitative easing (QE), and fiscal stimulus. As asset inflation policy is barely succeeded in slowing the rate of asset price deflation in the housing market, the Fed is in no position to change this policy, especially with fiscal stimulus reductions coming from the recent deficit reduction bill. Bernanke this week committed to two more years of ZIRP for this reason.
The resulting food price inflation in the Productive Economy is indicative.
I forecast this outcome in my book The Postcatastrophe Economy: Rebuilding America and Avoiding the Next Bubble, and stated that the only way to prevent this result is to directly reduce debt levels in the FIRE Economy to eliminate the need for inflationary Fed policy to prevent debt deflation in the private sector.
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