Stagflationary Thoughts

Cheap Dollars Meets Debt - Result Stagflation

Two separate articles in the Telegraph newspaper, when combined, underline a major medium term risk to the US economy.

The first is an article by Liam Halligan, chief economist at Prosperity Capital Management in which he explores the well covered concerns of the Chinese about quantitative easing in the US, pumping billions into providing liquidity to the US economy by way of buying treasury bills.

This article speaks of inflationary forces.

The other article is by Ambrose Evans-Pritchard in which he catalogs the statistics for the US economy and by implication much of the western world.

This article speaks of deflationary forces.

Here's the attempt to make sense of the two articles and how they could both be right.

So here is the potential double whammy of rising inflation as the currency slides, pushing up the cost of imports and sparking commodity rises. At the same time, the country faces an excess of capacity and lack of demand as consumers remain retrenched rebuilding their personal balance sheets. This is called stagflation, leading to rising prices but ever falling demand.

That's been the thinking since I became a bear back in 2004. It's why I named myself Stagflationary Mark. We've seen a mini-round of stagflation as oil climbed to $140+. I think we'll see more mini-rounds of stagflation heading forward (possibly intensifying as part of Alan Greenspan's Age of Turbulence, as the bubble "Maestro" ought to know).

I can't speak for the timing and once again, I could very well be wrong. That said, I continue to stick to the long-term stagflation story, and so far its conclusions have served me rather well. It's been a decent bet for most investors over the last decade. Although oil did crash, it is far more expensive than it was a decade ago. Gold and silver have certainly done well. Inflation protected treasuries and I-Bonds have done very well too when compared against the stock market (and with a lot less volatility).

Over the short to mid-term I am not nearly so confident though. Deflation did hit with a vengeance and could strike again without much notice (perhaps this very Christmas season). However, the operative words are "did" and "could" though. As seen here, we've only had one month of deflationary activity so far this year. It was the modest -0.1% in March. That's it.

Since hitting the deflationary bottom in December of 2008, seasonally adjusted consumer prices are actually up 1.8% in 8 months. That's a 2.7% annual rate. It also puts today's one-tenth of one-percent three-month (need a magnifying glass to see the yield) treasury bills severely underwater once inflation is factored in. Those treasury bills didn't do so well in the 1970s either for what it is worth.

So far we seem to be doing a fine job fending off the Great Depression by destroying our currency. Should the bulls actually be right and we manage to fend it off permanently, it could very well leave a destroyed currency in its wake. Won't that be fun! There's all this talk of exit strategies. Can't you just picture the Fed un-printing money and credit? Just jam it back into the printing press from the other side. That's what I always say!