Canadian Money Forum banner

1 - 20 of 70 Posts

·
Banned
Joined
·
118 Posts
Discussion Starter #1
I don't know about you folks but i am having a really hard time getting my mind around the concept of deflation, and yet its probably the number one economic debate for the last year in the blogospere.

I'm starting a thread devoted to the issue, because i know there are sophisticated investor-minds here that understand this debate far more than i do, so i'm hoping to hear some opinions, and gain a better understanding of the issues.

Thanks in advance for sharing your opinions and knowledge!

(submitting exhibit A to kick off the discussion)
Drop in Inflation Expectations Has Gone Global
 

·
Banned
Joined
·
118 Posts
Discussion Starter #4
What are you confused about? What is it? What causes it? What its consequences are? How to avoid it?
Ok, that's a fair question. Quantifying it, and qualifying deflation, first, as it pertains to the current global picture, (as this article above does with respect to inflation). Just exactly how the US credit market is deleveraging (the principle ways), and where that's going to lead, and what happens to the numbers overall when US RE comes off another 15% to 20% as many analysts are predicting, given there is 18 months supply in the pipeline (at least) and the anticipated fallout to our economy, (which does not operate in a fishbowl); and how deflation is liable to express itself in US equities markets. Those are just a few quandaries persisting in my mind.

Its more of a macro operational picture i am trying to grasp. Does that make sense? I feel like i understand bits and pieces of the global and regional picture, but i can't somehow frame it into a complete understanding of all the working parts. (emphasis on falling RE markets and impact of failing mortgages to credit-supply, liquidity-traps, asset class deflation, etc)
 

·
Banned
Joined
·
118 Posts
Discussion Starter #5
Exhibit B

By MarketWatch July 14, 2010, 3:11 p.m. EDT ·

WASHINGTON (MarketWatch)
-- It could take five to six years before the U.S. economy is fully healed from the Great Recession of 2008, officials at the Federal Reserve said Wednesday.

More years of high unemployment. More years of skirting with deflation. More years of ultra-low interest rates, and more years of deleveraging.

The Federal Open Market Committee released its economic forecast on Wednesday, and it was dismal. While the officials are relatively upbeat about growth, they don't see the unemployment rate falling very quickly, nor do they think inflation is going to be a problem any time soon. See full story on the FOMC minutes.

That means there is no rush to normalize interest rates any time in the foreseeable future.
 

·
Registered
Joined
·
2,892 Posts
Technically couldn't we get both.

Asset deflation for RE and big ticket items.

And price inflation for gasoline, groceries and smaller everyday items.
 

·
Registered
Joined
·
7,252 Posts
Technically couldn't we get both.

Asset deflation for RE and big ticket items.

And price inflation for gasoline, groceries and smaller everyday items.
That is exactly what we are witnessing.
Also, IMO, this is the new "normal".
Inflation and deflation are relative to current price levels.
However, we may need to adjust our mindset and expectation to a new normal of current employment levels, current price levels and current rate of returns/growth of equity levels.
Japan has been dealing with this type of "new normal" for decades now.
 

·
Banned
Joined
·
118 Posts
Discussion Starter #8
That is exactly what we are witnessing.
Also, IMO, this is the new "normal".
Inflation and deflation are relative to current price levels.
However, we may need to adjust our mindset and expectation to a new normal of current employment levels, current price levels and current rate of returns/growth of equity levels.
Japan has been dealing with this type of "new normal" for decades now.
I'm no expert in Japan's economy, but if JP's now two lost decades are the corollary, then should we be expecting 1,500 on the DOW anytime soon?

Then there's the fact that JP had a functional, and for all intents and purposes healthy manufacturing industry pumping away exports underneath a dysfunctional financial layer and government monetary policy (right?). So that's different.

Japanese were savers, loaned to the Gov, then there was the carry trade business, etc etc. Many differences including the fact that this is the worlds base currency we are talking about, with gold reflecting the fact that all is not well in the kingdom. We could be comparing white swans with a sick black swan, (excuse the mixing of metaphors).
 

·
Registered
Joined
·
2,953 Posts
Does the old maxum, "invest during periods of maximum pessimism" apply in the current environment?

You don't make money by investing during periods of 'maximum euphoria'. That is how you lose money!!

It is a difficult and confusing time for investors--especially older ones like me with a diminishing time line.

Something else that I recall reading is "never invest money in the stock market that you cannot afford to lose".

What to do????

One solution might be to not look at our portfolios for the next ten years or so.
 

·
Registered
Joined
·
7,252 Posts
Then there's the fact that JP had a functional, and for all intents and purposes healthy manufacturing industry pumping away exports underneath a dysfunctional financial layer and government monetary policy (right?). So that's different.

Japanese were savers, loaned to the Gov, then there was the carry trade business, etc etc. Many differences including the fact that this is the worlds base currency we are talking about, with gold reflecting the fact that all is not well in the kingdom. We could be comparing white swans with a sick black swan, (excuse the mixing of metaphors).
Yes, there are key differences between Japan and current state of the US (North America), as you have rightly pointed out.
My intent in using the example is that we may not experience significant inflation or deflation in the near future.
By its very nature, stagnation can last for decades.
The capitalist boom-and-bust cycle requires an external stimulus to break out of.
The US economy emerged from the recession of the 1980s (fag end of the Reagen era and the Bush Sr. era) through the dot com bubble.
Then we had a relatively small recession of about 3 years and the real estate boom lifted the economy.
Now that it has burst, we must wait for the next bubble.
Capital is waiting on the sidelines for deployment into the next big thing.
It could take only a couple of years or it could take decades for the next big thing to arrive.
For Japan, it was manufacturing and finance.
They are still waiting for their next big thing.

We may have to get used to single digit returns on investment, 2% or so inflation, relatively low interest rates, low employment growth, modest increases in salaries and standard of living for a long time to come.
 

·
Registered
Joined
·
3,936 Posts
OK first of all there is an inherent flaw in this thread in that it pulls an alarm for something that simply isn't true or happening. Deflation has not been and is not a threat. In fact, I would argue that the inflation numbers being published are lies. 1-2%? C'mon. My gas, insurance, groceries, HOUSING, rent, legal, oil, postage, user fees, electricity, telephone and cable bills have ALL gone up SIGNIFICANTLY over the past 5-10 years, WAY more than 1-2%. For there to be any measurable deflation, you would need to see these sorts of numbers but on the negative side.

We're headed for a period of inflation folks, and the BOC is watching this carefully, ready to increase interest rates. Pity anyone who is maxed out on ridiculous mortgage payments. When they go to renew, the apartment life won't seem so bad after all. :)

We're in an economic mess right now. Don't let anyone tell you that things are "Getting better" because it's simply not true. Governments around the world are in financial ruin after the billions they spent in bailout money and when they start to try and get their budgets balanced in the months and years ahead we're going to see more situations like Greece and California, where thousands of gov't workers and social programs are being cut, roads will crumble etc. Think the Paul Martin/Mike Harris cuts of the mid-1990s but 10x worse IMO.
 

·
Registered
Joined
·
2,925 Posts
Other then the stuff we really need like haroldcrump said then where is the money coming from to cause high inflation the-royal-mail. In Vancouver a lot of money comes from China to increase home prices. We are expecting China, India and the emerging markets as the driver of inflation and not the developed economies of the west.

Otherwise central banks in the west will have to give money away to people to cause inflation and right now no one wants it unless they don't have to pay it back. Everyone is in big debt the country included and that needs to be addressed before any problem with inflation can arise.
 

·
Registered
Joined
·
5,464 Posts
In fact, I would argue that the inflation numbers being published are lies. 1-2%? C'mon. My gas, insurance, groceries, HOUSING, rent, legal, oil, postage, user fees, electricity, telephone and cable bills have ALL gone up SIGNIFICANTLY over the past 5-10 years, WAY more than 1-2%. .
The consumer price index represents average (weighted) general increases in prices based on an "average" consumer, who may not represent you at all.

That is, a CPI of 2% does NOT mean that prices for individual items have risen 2%. It means that a "representative" (urban) household, purchasing a representative, standard basket of goods and services in particular portions and amounts, would experience the general price increase (or decrease) which the CPI expresses.

So if avocados have risen in price but bananas have fallen, and you personally love bananas and shun avocados while the "representative" Canadian household not only loves avocados but has increased their consumption of them, the CPI will rise - but it won't represent your spending or the impact of price moves on your total spending.

There's lots of (academic) discussion about how representative (or not) the general CPI is for North Americans. The US has a couple of different CPIs, including one that is specific to the elderly. There's even a website which allows you to track your own personal CPI.
 

·
Registered
Joined
·
6,883 Posts
Asset deflation and consumables inflation. That is what I see. Unfortunately, the assets include stock prices and fixed income. Not a good place for retirees.
 

·
Registered
Joined
·
12,806 Posts
Asset deflation and consumables inflation. That is what I see. Unfortunately, the assets include stock prices and fixed income. Not a good place for retirees.
Then buy consumer staples and commodities companies. These would be inflation sensitive.
 

·
Registered
Joined
·
2,953 Posts
It looks like after many good years of huge stock gains for investors, that we are in for a cooling off period.

Yes, of course I am being sarcastic!!:mad:
 

·
Banned
Joined
·
118 Posts
Discussion Starter #17
Yes, there are key differences between Japan and current state of the US (North America), as you have rightly pointed out.
My intent in using the example is that we may not experience significant inflation or deflation in the near future.
Japan has experienced significant deflation, i think the average is 1.7% (negative inflation) decline in prices since '92, excepting only two years. JP banks keep those pretend-loans on their books; non-performing loans which they won't write-off, even lending the defaulted more money to pay the interest. (so i have read).

Debt is money. If we do experience debt deflation, it will probably follow depression-era economist Irving Fisher's formulation:

Fisher's Formulation

In Fisher's formulation of debt deflation when the debt bubble bursts the following sequence of events occurs:

Assuming, accordingly, that, at some point of time, a state of over-indebtedness exists, this will tend to lead to liquidation, through the alarm either of debtors or creditors or both. Then we may deduce the following chain of consequences in nine links:

1. Debt liquidation leads to distress selling and to
2. Contraction of deposit currency, as bank loans are paid off, and to a slowing down of velocity of circulation. This contraction of deposits and of their velocity, precipitated by distress selling, causes
3. A fall in the level of prices, in other words, a swelling of the dollar. Assuming, as above stated, that this fall of prices is not interfered with by reflation or otherwise, there must be
4. A still greater fall in the net worths of business, precipitating bankruptcies and
5. A like fall in profits, which in a "capitalistic," that is, a private-profit society, leads the concerns which are running at a loss to make
6. A reduction in output, in trade and in employment of labor. These losses, bankruptcies and unemployment, lead to
7. pessimism and loss of confidence, which in turn lead to
8. Hoarding and slowing down still more the velocity of circulation.
The above eight changes cause
9. Complicated disturbances in the rates of interest, in particular, a fall in the nominal, or money, rates and a rise in the real, or commodity, rates of interest.
Morgan Stanley issued a report stating there are 8 million houses in the default pipeline in the US, and it will take about 47 months to move them through the system, and that the market bottom would occur 'about the same time'.

A month ago banking analyst Meredith Whitney reported they expect another 20% 'price deflation' to the price of housing.

I don't believe the market has priced this chain of events in (yet), but barring some miracle it's going to unfold as Morgan Stanley, and Whitney both forecast.

Plus the RE industry represents a significant chunk of the small business economy, so broad negative fallout to that sector will result, higher unemployment, dropping wages and so on.

Even if the asset write-down just on the foreclosures mentioned is 20%, the loss to the economy is 500 billion. The write-off of the mortgages in default will be at least 4 times that number. (Fed reports suggest the real number of bad securitised bank debt floating on the books is more like 5 trillion)

Does this scenario look anything like Fisher's Formulation? I think it's almost a match.
 

·
Banned
Joined
·
118 Posts
Discussion Starter #18 (Edited)
OK first of all there is an inherent flaw in this thread in that it pulls an alarm for something that simply isn't true or happening. Deflation has not been and is not a threat. In fact, I would argue that the inflation numbers being published are lies. 1-2%? C'mon. My gas, insurance, groceries, HOUSING, rent, legal, oil, postage, user fees, electricity, telephone and cable bills have ALL gone up SIGNIFICANTLY over the past 5-10 years, WAY more than 1-2%. For there to be any measurable deflation, you would need to see these sorts of numbers but on the negative side.

We're headed for a period of inflation folks, and the BOC is watching this carefully, ready to increase interest rates. Pity anyone who is maxed out on ridiculous mortgage payments. When they go to renew, the apartment life won't seem so bad after all. :)

We're in an economic mess right now. Don't let anyone tell you that things are "Getting better" because it's simply not true. Governments around the world are in financial ruin after the billions they spent in bailout money and when they start to try and get their budgets balanced in the months and years ahead we're going to see more situations like Greece and California, where thousands of gov't workers and social programs are being cut, roads will crumble etc. Think the Paul Martin/Mike Harris cuts of the mid-1990s but 10x worse IMO.
Read your post again. First you cry out it can't be happening, and then you go on to describe the moving parts, especially falling wages.

This stuff is tricky. World class economists are evermore divided and opposed on how to deal with this crisis, and therefore at least half will prove out wrong. As for your notion, that deflation is impossible, the reality is, we are already in it. But your taxes will still go up.

Here's my scenario, take it for what its worth.
Debt is money, and debt is deflating. Some trillions in dead and dying non performing mortgages exist hidden in the shadows, in the US gov closet. Over time they will be slowly brought onto the books and written off. That's a few trillion in debt that goes to zero, while assets are fire-saled carefully to any taxpayer that will have them. Wounded, non-performing assets needing an owner, sold by banks to the highest bidder. (nothing new)

RE sector in retraction, takes down with it the small business sector, and the SB sector is the one sector that produces the most job growth. (sad, isn't it)

With unemployment rising, the multiplier effect of money circulating, the velocity of money drops. As that happens, slack demand brings prices down, that squeezes jobs, and the spiral continues.

The wild card is energy costs. We live in a time of the energy dollar. Asia is growing and the demand is strong and getting stronger. Peak oil has occurred, even in this deflationary scenario, energy costs should continue an orderly increase. Wages are going to continue to lose ground, its the guaranteed outcome of high unemployment, the effect of supply and demand on the price of labour. Anything energy related should will increase in price. Gas will inflate, durables like autos will deflate. How long could that last? To me it sounds like 4 or 5 years. It won't be the end of the world, and we could dip in and out of it for 10 or more years.

Those are my thoughts, and I'm probably buying BP tomorrow. Flipping a coin.
 
1 - 20 of 70 Posts
Top