Saturday, December 1, 2007

1970: The Year of the Hangover

U.S. Economy: Growth Is Faltering After 4.9% Surge (Update3)
Nov. 29 (Bloomberg) -- The U.S. economy is faltering after a third-quarter expansion as new-home prices dropped the most since 1970 and jobless claims rose to a nine-month high.

1970: The Year of the Hangover
IN business, 1970 was the year of the hangover. The nation suffered the painful consequences of the economic overindulgence that began in 1965 when Lyndon Johnson expanded both welfare programs and the war in Viet Nam without benefit of a tax increase. That policy resulted in one of the longest, most severe inflations in American history: five years of accelerating price increases. In the so-far unsuccessful struggle to contain that inflation, the U.S. in 1970 stumbled into a recession that Richard Nixon had promised to avoid.

If you are like me, reading the entire article may send even more chills up your spine. Using hindsight, the "longest, most severe inflations in American history" party was just getting started. The rest of the 1970s put 1970 to shame. Of course, the article could not have known that since it was written in 1970.

Here's a small portion of other deja-vu items of note.

Unemployment rose from 3.9% in January to 5.8% in November, the highest in seven years, and 4,600,000 people were out of work.

Unemployment is currently low and rising (4.4% in March to 4.73% in October). I expect to see it accelerate higher soon (my gut does anyway).

The board made a special point of offering to advance credit to commercial banks through its "discount window," providing them with much needed funds for relending to corporations that had to pay off commercial paper.

Our Fed recently made a special point of offering to advance credit to commercial banks through its discount window.

The Federal Reserve Board thus narrowly averted a liquidity crisis—but not without a few tense moments.

Yeah, that's what we're told is happening now. Our tense moments began on August 20, 2007. It keeps happening though. The liquidity crisis seems to be getting worse (as one would expect as home prices fall).

Companies that had thrived by borrowing and expanding recklessly simply collapsed.

Borrowing and expanding recklessly? 1970 has absolutely nothing on us (see implode-o-meter link below).

Since November, long-term interest rates have declined more swiftly than at any time in the last century.

We're seeing that now. The outcome was not kind to those who backed up the truck on long-term treasuries though, not by any measure. People point to the long-term treasury market and think it is all knowing. March of 1971 was one of the worst times in American history to invest in long-term treasuries. Investors who locked in a 5.7% interest rate on the 10-year treasury saw inflation average 8.3% per year (over the next 10 years). As an added insult to injury, taxes were imposed on the interest.

The easiest way to put people back to work is to put more money into the economy. That can be done by expanding the budget deficit or increasing the money supply, or by using a combination of both.

Both! That's what we do best. The Fed stands by to help us out, again, and again, and again, just like it did in the 1970s.

I may be in a deflationary mood short-term, but I invest for the long-term. On that note, I think I shall keep my stagflationary name yet another day.

See Also:

The Mortgage Lender Impode-O-Meter


Anonymous said...

The similarites are amazing. The differences are amazing too. Like how much American saved back then. And how back then the government was actually worried about going into debt.

Also the losses that were mentioned in the article were so small. 125 million in 1970 (the amount they mentioned for the losses of the entire airline industry) is only 600 million in today's dollars. Today are we talking about losses of 60 billion at a single institution (Citibank). That's two orders of magntitude greater, and at a single institution.

Anonymous said...

I think this makes a strong case for deflation followed by inflation. We get deflation in the beginning due to the unexpected credit crunch. Once the Govt gets begins to respond, they are (necessarily?) always last to recognize a problem, inflation begins working its way into the system.

FWIW, I think the deflation phase is going to be relatively short. It has arrived for housing, commerical RE seems Q1 2008's news meme. A slight recession seems all that's required to yank the rug out from under the stock market and maybe even basic commodities (though I'd not be surprised if basic commodities were the one area to not drop significantly). Once the recession is in full-force and all the news is gloom and doom and everyone gets positioned for the worst, the Fed's rate cuts and various other Govt stimulus will have finally begun to have effect and then we will have that 70's show: no growth and inflation.

Here's something else to loose sleep over which nobody else I've seen has mentioned, it is in keeping with that 70's show: what would a *Venezualen* oil embargo do the US economy?

Stagflationary Mark said...


The differences are amazing too.

Yeah, and the differences don't make me sleep any better (as you point them out). Of that I assure you!

I continue to believe that we're trying to combine the Great Depression and the 1970s into a two wrongs make a right party. Only I'm not celebrating!

Stagflationary Mark said...


I too think the deflation, if any, will be relatively short. I think it has the potential to surprise the heck out of the bond market.

How many years have we been told that diversification through stocks and bonds was the only way to go? If one did poorly, the other would be doing okay?

Does nobody remember the 1970s? Both asset classes got hammered, and hard.

Warren Buffett said a few years ago that he thought stocks would outperform long-term bonds. There's hidden meaning in that statement in my opinion.

1. He did not say that stocks would do well.
2. Why the disclaimer on the type of bond? Why didn't he simply compare stocks to bonds?

I would have loved to ask him how he thought stocks would do relative to short-term treasuries (where he is often parked awaiting investment ideas).

I can say this though, he did say TIPS (inflation protected treasuries) were not a bad investment for those worried about inflation. Based on how he worded his stocks vs. bonds commentary, I think it is safe to say he's still worried about inflation long-term.

Anonymous said...

Wouldn't deflation be great for bonds? You're getting paid back in dollars that are more valuable than the ones you lent.

Stagflationary Mark said...


Wouldn't deflation be great for bonds?

Absolutely, if we got deflation and it stuck. Those thinking that deflation would be great for long-term bonds in 1971 were about as wrong as wrong could be though. They saw the recession and thought deflation was the only outcome possible. Oops. Further, they were rewarded with several more recessions as well. What should have been a deflationist's dream (so many recessions in such a short period of time) turned into a stagflationist's nightmare.

It could be argued that during the Great Depression people were not actually hoarding cash, but were instead actually hoarding gold (since the currency was backed by gold). People were hoarding gold in the 1970s as well. Unemployment was another common theme between the two eras.

Strip the gold away from the paper and I tend to believe in the stagflationary model. During the Great Depression the government could not print extra cash because it could not print extra gold. The 1970s did not have that restriction though.

Just my two cents.

Anonymous said...

OK, now I follow you... we are making the same point: after a brief bit of deflation, look-out for inflation as the govt steps in to try and help. (What was Reagan's quip? Whenever you hear someone say I'm from the govt and I'm here to help, run the other way.)

Also, over the past few weeks I have come to a mind that the lack of a gold standard inevitably leads to stagflation instead of depression.

As for right now, like I said, I think we are in the midsts of a deflation. If I were to bet, which in fact I am, I think it lasts another 6-12 months, before the interest rate cuts start catching up and we begin experiencing broad inflation, which by my hedonic adjustments I define as negative real rates on bank CD's.

Well, does that officially make this an echo chamber? Sorry. I try very hard to guard against group think and spare the me-too comments. If it helps I'll call you out for concentrating so heavily on TIPS and I-bonds. :-)

Stagflationary Mark said...


I think we are somewhat safe from group think so far.

Google News Hits

Bond: 71,934
James Bond: 2,802
I-Bond: 13

I think I'll do another I-Bond post in honor of those 13 news articles.