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Minyan Mailbag - Deflation Camp



Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next discussion with that very intent.


Most of those in the inflation camp seem to think that a Japanese style deflation cannot happen here. Some might even be pointing at today's PPI numbers as proof:

U.S. Jan. core PPI up 0.8%, most in 6 years

In addition to the PPI, another argument the inflation camp has used is the fact that Japan is predominantly a nation of savers while the U.S. is predominantly a nation of spenders. OTOH I have long believed that fact will eventually make deflation all the much worse here. All we know at this point is that the current consumption trend in the U.S. is not sustainable. U.S. savings cannot stay at 0% and we cannot keep spending 70-80% of the world's savings in perpetuity.

Unfortunately all we know right now is that the pattern WILL change, we just do not know when. Perhaps today's PPI numbers force Greenspan to hike one time too many to contain the inflation he purposely created. With today's numbers, there will no doubt be people mocking those of us in the deflation camp. Now is precisely when people should be worried about deflation if for no other reason than virtually no one thinks it is possible (save for a few wayward souls like you and I. You are with me aren't you Scott? Anyone else?)

In 2004 Greenspan declared victory over deflation. For someone wrong at every major economic turn in his entire career and bewildered at what the 10-yr treasury was telling him just yesterday, I often wonder why anyone should take this man seriously. Put me in the camp that we would have been far better off letting the market set interest rates rather than the FED. Greenspan has taken every problem and compounded it. As a direct result of Greenspan fighting the inevitable consumer led recession, he not only permitted but encouraged U.S. consumers to create an unsustainable mountain of debt. Unfortunately that debt just cannot be inflated away unless and until we have job creation and wage growth. Neither of those has happened yet and this far into a "recovery" neither of those will happen either. We might be able to print away U.S. debt, but without wage and job creation, consumer debt is a far, far bigger problem.

Roach talks about the "success" of the FED in fighting deflation today in
Global: Post-Bubble Pitfalls -- Yet Another Lesson from Japan

"On the surface, the Fed's success looks stunning. But keep in mind that this initial period of resilience is not all that dissimilar from that experienced in Japan in the immediate aftermath of the bursting of its equity bubble in the early 1990s. "

"Ironically, the U.S. probably has more to lose from a consumer capitulation than Japan. In large part, that's because the excesses of America's consumer culture dwarf the role of the Japanese consumer. The U.S. buying binge of recent years was sufficient to boost consumption to a record 71% of real GDP in early 2003 - a sharp breakout from the 25-year trend of 67% that prevailed over the 1975-2000 period. By contrast, the Japanese consumption share has hovered at only around 55% of GDP since 1990. Japan knows very little of the rampant consumerism that has dominated America's post-bubble experience. That could well come back to haunt a U.S. consumer who is far more overextended than the Japanese counterpart."

No doubt Greenspan feels right now that he defeated the K-Cycle. IMO all he accomplished is building a bigger mountain of debt that needs to be deflated a la Japan. When consumers and housing give up, I believe we will find that "deflation fighting" in the U.S. will have as much success as deflation fighting did in Japan. Show me wage and job growth and I will buy sustainable inflation. Otherwise, the parallels to Japan are many and should not be overlooked. We seem have ended round one (corporate spending pullback) successfully. Pundits are declaring victory in round two (defeating a recession). The real battle begins with round three (pullback in consumer spending). Bring it on before Greenspan makes matters worse once again.

Minyan Michael Shedlock


I am with you right there in the deflation camp. What everyone seems to forget is the following: (1) assets also can "inflate" and "deflate" and (2) assets, in the face of massive reflation efforts, inflate first and real goods (commodities and other factors of production at later stages in the economic value chain) inflate later. So all that "inflation" in assets we saw from 2002 to now is just starting to show up in the PPI and later (perhaps) in the CPI. But the fact that LEADING indicators of ASSET deflation (stock and bonds markets) are highly suggestive of a massive asset deflation coming up in the next few years. And that suggests that those measures which the media and consensus watch - like CPI and PPI - will eventually make their way down. But by the time you see those figures, we'll already be in the very heart of the deflationary part of the Kondratieff cycle you so aptly highlighted. Once again, by the time the gov't stats and the media pick up on it, it'll already be too late. Deflation will be an unstoppable force by then.


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