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Inflation or Deflation? Collapse in Demand Trumps Supply Shocks

Inflation or Deflation? Collapse in Demand Trumps Supply Shocks

The inflationists are coming out of the woodwork, but they are wrong.

Get Ready for the Return of Inflation, says Tim Congdon, in a Wall Street Journal op-ed.

The economists Milton Friedman and Anna Jacobson Schwartz demonstrated in “A Monetary History of the United States” that a collapse in the quantity of money was the main cause of the Great Depression. Hoping to avoid a repeat, the Federal Reserve in recent weeks has poured money into the economy at the fastest rate in the past 200 years. Unfortunately, this overreaction could turn out just as poorly; history suggests the U.S. will soon see an inflation boom.

Friedman and Schwartz used a broad definition of the quantity of money that included all bank deposits, and found that U.S. money stock shrank by 38% between October 1929 and April 1933. Some prominent economists—including Princeton’s Paul Krugman and Columbia’s Joseph Stiglitz—claim that money growth no longer matters much, but they’re wrong. After all, the 2007-09 recession showed that the ever-changing fortunes of the banking system have a significant effect on demand, output and employment. From 2010-18, growth rates of the quantity of money and nominal gross domestic product were virtually identical at 4% a year.

Policy makers have repeatedly called the battle against the novel coronavirus a war. As in wartime, federal expenditures are rising sharply while tax revenues are being hit by the lockdown. Both World War I and World War II—and, indeed, the Vietnam War—were followed by nasty bouts of inflation. If that happens again, policy makers today being cheered for their swift, decisive action will instead have to answer for their grave lack of foresight.

Inflation View is Wrong

The inflation view espoused above is widely held. Some even call for hyperinflation. 

However, the collapse in demand, dwarfs supply shocks and monetary printing.

…click on the above link to read the rest of the article…

How Oil Prices Could Go To $100

How Oil Prices Could Go To $100

Offshore

“We’re in a deflationary moment that surpasses anything seen in most people’s lifetimes,” proclaimed a New York Times byline on Tuesday, the morning after oil prices went negative. The West Texas Crude Intermediate benchmark plummeted to previously unimaginable depths, closing the day at negative $37.63 per barrel.  The novel coronavirus has wreaked unprecedented havoc on the global economy, shutting down entire industrial sectors and bringing countries across the world to a halt as the global community shelters in place to slow the spread of the COVID-19 pandemic. Economists have warned that the fallout is going to be the largest economic downturn that we have seen in our lifetimes, but few could have foreseen the absurdity of negative oil prices. 

Few, but not none. Three weeks ago, on April 1, CNBC published a report titled “Oil prices could soon turn negative as the world runs out of places to store crude, analysts warn,“ which predicted exactly what is happening now. “Global oil storage could reach maximum capacity within weeks, energy analysts have told CNBC, as the coronavirus crisis dramatically reduces consumption and some of the world’s most powerful crude producers start to ramp up their output.”

While the situation is totally unprecedented it’s impossible to say what will happen next for oil markets, some experts think that oil is poised for a major comeback. Even though oil prices are lower than they have ever been, “one energy fund thinks $100 a barrel is achievable,” reported the Midland Reporter-Telegram earlier this week. At the time of the report, oil was only at an 18-year low rather than an all-time low. The article intro continued:  “But first, prices need to fall even further.” Well, they got their wish. 

…click on the above link to read the rest of the article…

The destructive force of bank credit

The destructive force of bank credit 

Commentators routinely confuse the deflationary effects of a contraction of bank credit with the inflationary effects of central bank policies designed to offset it. Central banks always ensure their stimulus is greater, so inflation, not deflation, is always the outcome.

In order to understand bank credit, we must enter the mind of a banker and understand how it is created, why it is expanded and why expansion is always followed by a sharp contraction. 

But we have now moved on from a simplistic credit cycle model, given the global economy was already facing a tendency for bank credit to contract before the coronavirus drove supply chains into the greatest global payment crisis in history. The problem is now so large that to maintain both economic stability and price levels for financial assets the central banks, led by the Fed, will have to issue so much base currency that fiat currencies will become almost worthless.

In these conditions the banks that survive the next several months will then begin to expand bank credit anew to buy up physical assets instead of their normal financial fare, sealing the fate of fiat currencies with a final expansion of bank credit as the banks themselves dump worthless currencies for real assets.  

Introduction

Never has it been more important to understand the psychology and motivation behind changes in the level of bank credit at a time when governments and central banks are relying on commercial banks to transmit Keynesian stimuli to distressed borrowers. And never has it been more important for analysts to differentiate between deflationary forces that come entirely from the contraction of bank credit and inflationary forces that arise from central banks’ monetary policy.

…click on the above link to read the rest of the article…

Overcapacity / Oversupply Everywhere: Massive Deflation Ahead

Overcapacity / Oversupply Everywhere: Massive Deflation Ahead

The price of a great many assets will crash, out of proportion to the decline in demand. 

Oil is the poster child of the forces driving massive deflation: overcapacity / oversupply and a collapse in demand. Overcapacity / oversupply and a collapse in demand are not limited to the crude oil market; rather, they are the dominant realities in the global economy.

Yes, there are shortages in a few high-demand areas such as PPE (personal protective equipment), but across the entire spectrum of global supply and demand, there is nothing but a vast sea of overcapacity / oversupply and a systemic decline in demand as far as the eye can see.

Here’s a partial list of commodities that are in Overcapacity / oversupply:

1. Overvalued assets

2. Overpriced income streams (as income craters, so will the asset generating the income)

3. Labor: low-skill everywhere, high-skill in sectors experiencing systemic collapse in demand

4. AirBnB and other vacation rental properties

5. Overpriced flats, condos and houses

6. Overpriced rental apartments

7. Overpriced commercial office space

8. Overpriced retail space

9. Overpriced used vehicles

10. Overpriced collectibles

I think you get the idea.

Should China restart its export factories, then almost everything being manufactured will immediately be in oversupply, as the global export sector was plagued with mass overcapacity long before the Covid-19 pandemic crushed demand.

Incomes will crater as revenues and profits crash, small businesses close their doors, never to re-open, local governments tighten spending, and whatever competition still exists will relentlessly push the price of labor, goods and services lower.

Globalization has generated hyper-specialization in local and regional economies, stripping them of resilience. Fully exposed to the demand flows of a globalized class of consumers with surplus discretionary income, regions specialized in tourism, manufacturing, commodity mining, etc.

…click on the above link to read the rest of the article…

Brace for impact

Brace for impact

What a week we just had in the precious metals market.

From a huge drop last Friday–which in the past would have presaged further declines the following week–to a significant rebound in the gold price, coupled this time with a major drop in the US dollar–which I will argue may be the signal for a switch to inflationary conditions.

First the chart

We see the nice deflationary trend of the past 18 months looks to have been decisively broken by last week’s action. Although it will be a few weeks before we can be absolutely sure, last week suggests that we are about to embark on another bout of inflation, no doubt as carefully calibrated by the Masters of the Universe as they can fill a shot-glass of whiskey from a pool of liquidity the size of a football field. Either, like a small child pouring verycarefully, they have poured only too much, or they have sloshed out enough whiskey to fill a large swimming pool, and we are about to see what happens when it all lands in a shot glass.

Now, why the need for some liquidity?

Another chart:

This graph plots the gold-copper ratio against its rate of change. I typically interpret this ratio as an indicator of the real world preference between bricks and mortar and financials. When the ratio is low, it’s a sign that people would rather make refrigerators than chase derivatives. Rate of change is the vertical axis. Near the top of the chart means that the plot is shifting towards the right at high speed. Currently, the system is moving toward the right (ratio is increasing) at the fastest rate in the last couple of years. To me, this means the real economy is degrading very quickly.

Thus the Fed may feel pressured to pump out some liquidity.

…click on the above link to read the rest of the article…

What Will It Take to Get the Public to Embrace Sound Money?

What Will It Take to Get the Public to Embrace Sound Money? 

In the last decade, the combination of virulent asset price inflation and low reported consumer price inflation crippled sound money as a political force in the US and globally. In the new decade, a different balance between monetary inflation’s “terrible twins” — asset inflation and goods inflation — will create an opportunity for that force to regain strength. Crucial, however, will be how sound money advocacy evolves in the world of ideas and its success in forming an alliance with other causes that could win elections.

It is very likely that the deflationary nonmonetary influences of globalization and digitalization, which camouflaged the activity of the goods-inflation twin during the past decade, are already dissipating.

The pace of globalization may have already peaked, before the Xi-Trump tariff war. Inflation-fueled monetary malinvestment surely contributed to its prior speed. One channel here was the spread of highly speculative narratives about the wonders of global supply chains.

Digitalization’s potential to camouflage monetary inflation in goods and services markets, on the other hand, has come largely via its impact on the dynamics of wage determination. It has forged star firms with considerable monopoly power in each industrial sector. Obstacles preventing their technological and organizational know-how from seeping out to competitors means that wages are not bid higher across labor markets in similar fashion to earlier industrial revolutions. These obstacles reflect the fact that much investment is now in the form of firm-specific intangibles. Even so, such obstacles tend to lose their effectiveness over time.

As deflation fades, monetary repression taxes (collected for governments through central banks’ manipulation of rates to low levels so as to achieve 2 percent inflation despite disinflation as described) will undergo metamorphosis into open inflation taxes as the rate of consumer price inflation accelerates. Governments cannot forego revenue given their ailing finances. Simultaneously, asset inflation will proceed down a new stretch of highway where many crashes occur.

…click on the above link to read the rest of the article…

Inflation Is Coming…

Inflation Is Coming…

Investing is all about probabilities. If the perceived odds of an event are high, certain securities will be priced based on those expected probabilities. The corollary is that when an event is perceived as almost impossible, securities do not price in any chance of it occurring. If that event does occur, all sorts of securities need to re-price—often quite rapidly. I like to spend my time pondering what potential events the market completely ignores. Of all potential economic outcomes, the one that is least anticipated and least priced in, is an uptick in inflation.

It is said that generals always fight the last war. In terms of macro-portfolio wars, Japan’s experience with deflation colors all views. This seems odd to me because we have over two millennia of history showing inflation and currency debasements to be universal constants, with one outlier in Japan. The question is if Japan is the new normal or a true outlier?

Academics have studied the causes and effects of inflation ever since emperors and kings fixated on halting its effects. Despite a massive body of work, there is little agreement amongst experts on the causes of inflation. Since I tend to ignore “experts,” let me start by giving you the Kuppy definition of inflation. “Inflation is when too much of a certain currency chases a scarce resource and pushes its price higher when defined in terms of that currency.” Using that definition, we’ve actually had rather dramatic inflation over the past decade—it just hasn’t shown up yet in the core consumer goods that central bankers are often concerned about.

Did they time-stamp the cyclical low in yields?

When a country prints money, no one knows where within the economic ecosystem it will ultimately flow. If a resource is scarce, it tends to experience inflation—when it is artificially scarce, it has even more extreme inflation.

…click on the above link to read the rest of the article…

An Inflationary Depression

An Inflationary Depression 

Financial markets are ignoring bearish developments in international trade, which coincide with the end of a long expansionary phase for credit. Both empirical evidence from the one occasion these conditions existed in the past and reasoned theory suggest the consequences of this collective folly will be enormous, undermining both financial asset values and fiat currencies.

The last time this coincidence occurred was 1929-32, leading into the great depression, when prices for commodities and output prices for consumer goods fell heavily. With unsound money and a central banking determination to maintain prices, depression conditions will be concealed by monetary expansion, but still exist, nonetheless.

Introduction

The unfortunate souls who are beholden to macroeconomics will read this article’s headline as a contradiction, because they regard inflation as a stimulant and a depression as the consequence of deflation, the opposite of inflation. 

An economic depression does not require deflation, if by that term is meant a contraction of the money in circulation. More correctly, it is the collective impoverishment of the people, which is most easily achieved by debasement of the currency: in other words, monetary inflation. Fundamental to the myth that an inflation of the money supply is the path to economic recovery are the forecasts by the economic establishment that the world, or its smaller national units, will suffer no more than a mild recession before economic growth resumes. It is not only complacent central bank and government economists that say this, but their followers in the private sector as well. 

It is for this reason that the S&P 500 Index is still only a few per cent below its all-time high. If there was the slightest hint that Corporate America risks being destabilised by a depression, this would not be the case.

 …click on the above link to read the rest of the article…

Blackrock CIO: The Endgame Is Coming And Central Banks Will Debase Everything To Spark Inflation

Blackrock CIO: The Endgame Is Coming And Central Banks Will Debase Everything To Spark Inflation

Blackrock’s Chief Investment Officer, Rick Rieder, best known perhaps for recently suggesting that the ECB should monetize stocks, writes in the Blackrock blog today and highlights the economic policy state-of-play today, and where it may lead to should economic growth falter, productivity not materialize, and populism continue to thrive.

* * *

The major global central banks continue to draw bigger guns in their battle against deflation, yet in some places, it appears to be of no avail. The fact is that the share of sovereign yields that are in negative territory keeps increasing and the average level of these interest rates becomes ever more negative. Further, quantitative easing (QE) purchases of sovereign debt have transitioned to purchases of corporate debt, and in some places equities; with inflation still elusive and improved growth prospects in question. That all leads one to wonder where (and how) these policies end? What is today’s monetary policy endgame?

Turn to economic history for perspective

In order to envision the monetary policy endgame several years (or a decade) from now, let’s start by stepping back and examining two of the foundational tenets that have driven the global economy and financial markets since the 1970s. The first principle is that the major central banks embraced a roughly 2% inflation target (implicit for the Federal Reserve since, at least, 1995 and explicitly stated since 2012), and the second factor is the end of the Bretton Woods monetary system; marking the shift away from the gold standard and into a world of fiat currency fluctuation.

 …click on the above link to read the rest of the article…

3 Central Bank Shocks Unleash Overnight Yield Crash, With Yuan On Verge Of Collapse

3 Central Bank Shocks Unleash Overnight Yield Crash, With Yuan On Verge Of Collapse

There is just one way to describe the plunge in bond yields overnight and the events behind it: the global race to the currency bottom is rapidly accelerating in its final lap with a global deflationary Ice Age (take a bow Albert Edwards) waiting on the other side.

The main event, of course, was the latest yuan fixing with the PBOC showing a clear sense of humor when it set the currency at 6.9996laughably not to be confused with 7.0000 (for at least another 24 hours that is), but just a fraction of a percent away from the critical threshold, and weaker than the 6.9977 expected. The result was a resumption in the offshore yuan selloff, a hit to US equity futures and a drop in Treasury yields. Of course, once the PBOC does finally fix the yuan on the wrong side of 7, all bets are off and watch as the CNH crashes… as far as 7.70 according to SocGen, especially once Trump hikes tariffs to 25%.

But there was much more in today’s iteration of the global race to the currency bottom, when first New Zealand, then India and finally Thailand shocked investors by being far more dovish than analysts expected. Indeed, the three Asian central banks delivered surprise interest-rate decisions on Wednesday as central bankers not only took aggressive action to counter a worsening global economy, but are now frontrunning each other – and the Fed – in doing so.

As noted last night, New Zealand’s central bank on Wednesday stunned investors by dropping its benchmark rate by 50 basis points, double the expected reduction and sending the kiwi tumbling. Thailand also surprised all but two in a survey of economists, cutting by 25 basis points. Finally, India’s central bank lowered its rate by an unconventional 35 basis points.

 …click on the above link to read the rest of the article…

Is Inflation Inevitable?

Is Inflation Inevitable? 

QUESTION: Mr. Armstrong is there any way we can not have inflation. If so how? If not what would you say 5% or more?
S

ANSWER: It all depends on your definition. The type of inflation coming is more STAGFLATION where prices rise due to cost-push (shortages) but there is a declining economic growth. The more familiar inflation is a DEMAND lead event because the economy is booming. Because governments are desperate for money, they keep raising taxes and are increasing enforcement. This trend is DELATIONARY for it reduces disposable income. The INFLATIONARY pressure comes from the rising costs which are set in motion by raising taxes.

Then we add the impact of the climate chaos creating shortages in food and that furthers cost-push inflation. The end result will be the shift from PUBLIC to PRIVATE where people will run away from government debt on all levels and move to tangible assets to survive.

“We’re Never Going To Go Away From Zero:” Presenting Kyle Bass’ Latest Trade

“We’re Never Going To Go Away From Zero:” Presenting Kyle Bass’ Latest Trade

Here at Zero Hedge, we’ve dedicated plenty of attention to signs of “Japanification” in European bond markets…

… with the issue taking on even more urgency now that we have influential bond strategists earnestly advocating the purchase of equities by the ECB, and the Fed in the middle of a policy U-turn that has prompted the market to price in at least three interest rate cuts by the end of the year…

Rates

…previously “conspiratorial” ideas like the Fed buying equities to turbocharge its stimulus program are beginning to look eminently plausible.

For readers who are unfamiliar with the term, “Japanification”, also known as Albert Edwards “Ice Age” concept, it involves the dawn of a new economic paradigm characterized by stagnant growth and pervasive deflation, where central bank debt monetization is needed to finance public spending to keep economies from sliding into contraction.

Bass

Already, there’s reason to believe that both the US and Europe are heading for the same monetary policy trap as Japan. Case in point: the neutral rate – or r*, as the economists at the Fed like to call it – has failed to revert back to its pre-crisis level.

Yields

And with the Fed likely to cut rates later this month and global bond yields tumbling to levels not seen in years, if ever, hedge fund manager Kyle Bass has revealed his latest trade in an interview with the  FTBass is betting that the Fed will slash interest rates to just above zero next year as the US economy slides into a recession, forcing the Fed to restart QE, and possibly even consider more radical alternatives like buying equities.

 …click on the above link to read the rest of the article…

What Happens When the Financial Capital of the World Moves?

What Happens When the Financial Capital of the World Moves? 

QUESTION:

Hi Marty,

Knowing that the financial capital will likely move to China after 2032, since that would be the peak of the public wave, where will someone in the US put their capital?

Usually, the move from public to private would result in a move into sovereign debt and cash, but will the move after 2032 be different given the sovereign debt and monetary crisis we will be going through these next few years.

Thanks!

SB

ANSWER: Britain was the Financial Capital of the World until World War I. This chart illustrates what happened to Britain and how it lost that stature of being the Financial Capital of the World — it was debt. The people in Britain did not lose everything. What really happened was that the separatist movement emerged and the British Empire began to break up.

Look at the British pound during the American Civil War. It was the rally in the pound that began the breakup of the British Empire, as I have warned will happen to the US dollar. That rise in the pound exported DEFLATION to the British Empire and the economic conditions led to the start of separatist movements. Canada won its independence on July 1, 1867. The second major wave of separatist movements came with the end of World War II. India won its independence on August 15, 1947.

The United States will be at risk of also breaking apart under economic conditions, which will fuel both the religious and political battles between left and right. There will be a high probability that the United States will break into regional groups, probably four major regions in general. It does not mean life will come to an end or that we all have to run and hide in a cave. The British survived as will Americans. If we understand the cycle, we will be better positioned to survive with security.

Fear of Inflation & Sterilization

Fear of Inflation & Sterilization 

QUESTION: Mr. Armstrong; you were friends with Milton Friedman. Do you agree with his view that the Great Depression was caused in part by the Fed refusing to expand the money supply? Isn’t Quantitative Easing expanding the money supply yet it too has failed to create inflation. Would you comment on this paradox?

Thank you for your thoughtful insight.

P

ANSWER: Yes, this certainly appears to be a paradox. This results from the outdated theory of economics which completely fails to grasp the full scope of the economy and how it functions. This same mistake is leading many down the path of MMT (Modern Monetary Theory) which assumes we can just print without end and Quantitative Easing proves there will be no inflation. They are ignoring the clash between fiscal policy carried out by the government and monetary policy in the hand of the central banks. This is a major confrontation where central banks have expanded the money supply to “stimulate” inflation. Governments are obsessed with enforcing laws against tax evasion and it is destroying the world economy and creating massive deflation.

In 1920, Britain legislated a return to the gold standard at the prewar parity to take effect at the end of a five-year period. That took place in 1925. Britain based its decision in part on the assumption that gold flows to the United States would raise price levels in Britain and limit the domestic deflation needed to reestablish the pre-war parity. In fact, the United States sterilized gold inflows to prevent a rise in domestic prices. In the 1920s, the Federal Reserve held almost twice the amount of gold required to back its note issue. Britain then had to deflate to return to gold at the pre-war parity. Milton saw that the Fed failed to monetize the gold inflows, fearing it would lead to inflation.

 …click on the above link to read the rest of the article…

MMT Is a Recipe for Revolution

MMT Is a Recipe for Revolution

Historian Stephen Mihm recently argued that based on his reading of the monetary system of colonial Massachusetts, modern monetary theory (MMT), which he cheekily referred to as PMT (Puritan monetary theory), “worked — up to a point.”

One can forgive him for misunderstanding America’s colonial monetary system, which was so much more complex than our current arrangements that scholars are still fighting over some basic details.

Clearly, though, America’s colonial monetary experience exposes the fallacy at the heart of MMT (which might be better called postmodern monetary theory): the best monetary policy for the government is not necessarily the best monetary policy for the economy. As Samuel Sewall noted in his diary, “I was at the making of the first Bills of Credit in the year 1690: they were not Made for want of Money, but for want of Money in the Treasury.”

While true that colonial governments controlled the money supply by directly issuing (or lendin)  and then retiring pieces of paper, their macroeconomic track record was abysmal, except when they carefully obeyed the market signals created by sterling exchange rates and the price of gold and silver in terms of paper money.

MMT in the colonial period often led to periods of ruinous inflation and, less well-understood, revolution-inducing deflation.

South Carolina and New England were the poster colonies for inflation, in part because they bore the brunt of colonial wars against their rival Spanish and French empires. Relative peace and following market signals eventually stabilized prices in South Carolina. 

In New England, however, Rhode Island for decades was able to act as a “money pump” that forced inflation on other New England colonies until they abandoned MMT entirely in the early 1750s.

 …click on the above link to read the rest of the article…

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