Sunday, April 20, 2008

Dire Signs

Amid strong farm economy, some dire signs

Observers see similar situation — too much debt — to crash of late 1970s

This is why I am sympathetic to the short-term deflationary argument. Had I been investing in the late 1970s I probably would have been way too long gold, silver, and other hard assets. Using the power of hindsight, I clearly would have been wrong to do so. Real yields spiked higher at the end. We're seeing some of that now. The 20 year TIPS is now yielding 1.96% vs. the 1.8% I got in January. That bet has not gone in my favor. I'm not complaining though. Since I'm holding until maturity it is only hurting me from an opportunity cost standpoint. Further, if inflation really does remain tame for the next 20 years I'll be far better off than I fear(ed).

"We're in a very risky time, and yet we don't seem concerned about that risk nearly as much as we should be," said Barry L. Flinchbaugh, an agricultural economist at Kansas State University.

Isn't that the truth. Oil just hit $117 a barrel. This parabolic rise is most likely not sustainable. If nothing else, something is bound to break.

Farm economists question whether the federal backing for ethanol will continue in the face of complaints that soaring corn prices are increasing food costs. Corn is used in most animal feed and is a key ingredient in myriad other products.

How could we possibly think we could afford to burn our food?

Harl, who has written extensively on the 1980s farm crisis, said the key is how much debt farmers take on, and it appears that amount is increasing significantly.

For what it is worth, it was the debt bubble that originally turned me bearish in 2004. Oil was an afterthought.

Harl said the current farm economy reminds him of about 1974 or 1975 — several years before the boom went bust.

There's that 1974 word again. Go figure. If Harl is right, then we've got a few more years left before things really implode. It would also explain why Soros thinks the commodity bubble is still in the growth phase. That being said, investing in bubbles once they are bubbles might not be the best plan. In my opinion, the low lying fruit has already been picked. You've got to have nerves of steel to go reaching for the fruit towards the top of the pyramid (scheme), um, I mean tree.


MAB said...


From your post:

This is why I am sympathetic to the short-term deflationary argument.

I've been struggling with this one for a while now and I'm not sure credit deflates in the manner many envision. Let me know if this makes any sense. Say a developer borrows 110 million to build a condo tower in Miami. Due to fractional reserve lending, let's say 100 million of new credit is created out of thin air. Also assume the 110 million loan is fully spent on materials, equipment, wages, etc. and this new 110 million gets deposited outside of the original lenders coffers. Now assume the project goes bust and is sold after bank reposession for say 70 million (a 40 million bank loss). Even though the lending bank takes a loss, the original 110 million gets multiplied through the system by fractional reserve lending. Further, and importantly, the 110 million is no longer attached to the original 110 million dollar liability. That seems inflationary to me especially since much of the new money in the economy is no longer obligated to service a bank loan (bank asset). Maybe this is what happened in the 1970s and is happening with CPI now.

In a fiat system where debt defaults are cut-off & isolated by fiscal & monetary policy, the excess money can end up anywhere. Eventually CPI goods become more valuable against excess money in the system. I don't see any reason why CPI can't occur simultaneously with falling stock & real estate prices. It seems like a natural result of poor lending and fiscal & monetary intervention.

Then again, I may have a different opinion on this tomorrow. There is just no telling what the fed, the gov't, investors or consumers will do. In the short term, it's all very irrational.

Anonymous said...

Like all bubble this one is going to end badly for all who stay to long, this will mostly be the farmers when the hot money flows to the next bubble. Another thing against the farmers is the lack of support for the farm bill, high fuel, fertilizer, seeds and trouble locking in current market prices.

Where the next bubble will occur is anyones guess at present but as long as the current dollar standard and central banking remain there can be little doubt that will occur. I see oil at 125 as a given at this point and yes the commodity bubble may have several years of life left.


Stagflationary Mark said...


It is my thinking that the $110 million in your example is yesterday's news. It is already priced in. The better question might be what will happen in the future.

Inflation or Deflation?

There will come a time when society as a whole will be unwilling or unable to take on new debt. This can happen for many reasons, but the most straight forward reason is a fall in creditworthiness as the debt load of the average citizen, company, and state government increases. When society hits this point it will be forced to unwind decades of debt growth over a period of a few years. This is the deflationary scenario where cash is king because everyone wants and needs it to pay of their debts. When this happens prices on everything fall dramatically.

The bank in your example got burned. It will be less willing to lend money in the future. This would put people in a "unable to take on new debt" situation. Is that not a bit of what we are seeing right now with banks?

In the end our politicians will attempt to bail out every industry they can and will destroy faith in the dollar. When this happens the dollar will become worthless.

I'm not quite that dire but they are certainly trying. It's fairly obvious we don't currently have a strong dollar policy. They tried in the 1970s too but finally came to their senses. I hope they do again at some point.

It clearly isn't just us with a problem either.

Britain Said to Consider Shoring Up Debt Market

Banks are unwilling to lend even to each other because they do not trust the value of their mortgage-backed assets at a time of falling property prices in Britain.

Here's one from 2002.

How bad could it get? Think Japan

Napier thinks the aftermath of bubbles, no matter where they occur, have long legs. He notes that deflation wasn't a problem at the outset for Japan either. It was just that the excesses bred by the Japan's late 1980s exuberance left banks unwilling to lend to companies, despite low interest rates. (Sound familiar?) Companies that had once been flush were forced to go begging. Consumers held the line for a while but as unemployment rose they stopped buying like before. Occasionally it would look like Japan was finally working its way out of the rut and policy makers would declare the battle won -- only to see the economy slide anew.

Well, here we are again. The economy is sliding anew. I do believe we are fighting deflation and somewhat winning (if you call stagflation and $117 oil winning that is).

For the twentieth century, at least, the answer to the question, "What happens when you let the air out of a bubble?" has been "It deflates."

Part of me is very sympathetic to that argument.

Stagflationary Mark said...


If the 1970s are any indicator, the bubble following commodities is a painful one to establish. There were back to back recessions to finish that decade off (in addition to one of the most painful recessions in US history: 1974).

MAB said...


Another central bank victory in the war against deflation. And to think, all it took was a couple of trillion yen & a few billion new consumers.

P.S. Given the increase in beef consumption, I think it's best that we keep the hamburger helper as a beef substitute a secret.

Stagflationary Mark said...


Dire indeed!

"I went to another supermarket, and then another, and there was no butter at those either. Everywhere I went there were notices saying Japan has run out of butter. I couldn't believe it — this is the first time in my life I've wanted to try baking cakes and I can't get any butter," said the frustrated cook.

Pssttttttt.... Hamburger Helper (minus the hamburger) can be eaten without butter. Let's keep that a secret too.

Stagflationary Mark said...


Japan is full of "dire warnings" it seems.

Japan issues dire warning over declining workforce

Some experts say the key to maintaining Japan's economic status lies in making better use of people in the aged 65-74 age bracket - the so-called "young elderly" who make up about 12% of the country's 127 million population.

I want to make sure I'm hearing this right. The Japanese workforce at this time is severely depleted, but there are still large numbers of elderly still able to work?

The German forces by this time were severely depleted, large numbers of German children and the elderly were forced into conscription by the Nazis to fight against the Red Army in the remaining pockets of territory not controlled by the Red Army in Berlin.

MAB said...


I can't even make a joke about this one. Mud for cryin out loud.

Stagflationary Mark said...


Mud? That's too sad for words. :( the diversion of food resources to make biofuels.

What the @#$% are we thinking?