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Five Things: Point of Recognition Edges Closer


Declining prices, increased savings, reduced consumption all reinforce deflationary debt unwind.

1) Point of Recognition Edges Closer

"The United States today is in a short-term deflationary phase caused by forced liquidations, de-leveraging, going out of business sales, and other temporary factors."
- National Inflation Association

Almost a month to the day after this ominous warning came down from the National Inflation Association, it became official; consumer prices in the United States as measured by the Consumer Price Index are declining for the first time since 1955.

In other words, the point of recognition will soon be upon us. And this means people will begin to wake up to declining prices, increased savings and reduced consumption, which will only further reinforce the deflationary debt unwind we are experiencing.

2) Deflationary Signposts Ignored... for Now

The problem, of course, is that deflationary signposts are being ignored by mainstream economists and talking heads in favor of a very narrow, one-sided view of government reflation attempts. Yes, the government and Federal Reserve are doing everything possible to kickstart the economy, and that involves massive spending and credit creation. But here's the catch: credit creation is not a one-way process. The Fed can make near-infinite amounts of credit available, but if no one is willing to take it, then it's the equivalent of chasing Jello around the bowl with a fork.

Take, for example, the most recent NFIB (National Federation of Independent Business) small business survey. For the first time since the survey began in 1986, the net percent of small businesses planning price increases over the next
six months has fallen to zero. For comparison's sake, that number a year ago was 29 percent. Inflation? You can't have nary a whiff of it without increasing prices… an old Appalachian saying.

And so the problem remains how to stir up a good, old-fashioned reflationary spike for the economy when the most critical component - consumers - is hell-bent on doing exactly the opposite.

3) How Can We Stop Deflation?

Deflation is relentless. And when the psychology becomes entrenched, the death grip on the economy is near impossible to break... artificially, at least. So how do we stop it? Here are three things that must take place before we can see a sustained economic recovery.

1. The economy must be deleveraged and private debt as a percentage of GDP must be reduced.

2. We must have real economic growth; that is growth that stems from true economic productivity rather than leverage and debt.

3. Confidence in the financial system must return.

Positive social mood is supportive of confidence-building and an optimistic outlook on the economy, thus producing bull markets. But negative social mood works in the opposite direction. Perversely, because today's business executives have only been active through a long period of positive social mood, I believe they will consistently underestimate the severity and intensity of this negative climate.

4) The Crisis of the Real Continues

In September 2006 I first outlined The Price Simulacra using the structure found in Jean Baudrillard's "Simulacra and Simulation."

"What is the price of a security but an image? It is a "signifier" of some "thing." But what? Is it objective? Is price "real"? Baudrillard's successive phases of the image, if viewed in terms of securities pricing, seem to suggest the cyclical phases of markets.

Successive Phases of the Image (with price relation in parentheses)
- it is the reflection of a profound reality (price "means" something profound with respect to the security)
- it masks and denatures a profound reality (price disguises a profound reality - the value investor's dream)
- it masks the absence of a profound reality (1999)
- it has no relation to any reality whatsoever; it is its own pure simulacrum, a copy without a model (perhaps this is where we find ourselves today given the decoupling of paper money and the continuous supply of liquidity and credit to market participants with no underlying attachment other than the promise of a central bank).

From the standpoint of the final phase of the image (price) then are we now witness to securities markets that have no relation whatsoever to anything - solely existent as a pure simulacrum from which higher and lower are relations to something without meaning; in other words a hyperreal market?

While I further outlined this viewpoint in and article, "The Crisis of the Real," the signs of this ongoing crisis of authenticity continue to pile up almost daily.

The Wall Street Journal last Friday ran an opinion piece by Peggy Noonan discussing "authenticity chic."

"The New York of the years 1750 to 2008-a city that existed for money and for all the arts and delights and beauties money brings-is for the first time going to struggle with questions about its reason for being," Noonan writes. "This will cause profound dislocations."

This public recognition in the mainstream press of these social trends is all part of the ongoing process of this emerging crisis. And all of these things tie in directly with the point of recognition discussed above.

"As long as we an keep decreasing our bills we can keep making less money."
- Patrick Wojtowicz, quoted in USA Today on his family's economic downsizing plan.

Now that is deflationary psychology at work.

5) Return of the Entrepreneur

"Faced with bleak job prospects, many of the unemployed are hanging out shingles. One in four workers who have not found jobs is considering launching a business, according to a new survey."
USA Today, April 20, 2009, "Some Lose a Job and Become an Entrepreneur"

This of course was one of the themes outlined last December in Five Themes You Need to Know for 2009, "The Return of the Specialist & the Entrepreneur."

From a business standpoint, the operative word for 2009 will be "specialization." As the deflationary debt unwind continues, the businesses most at risk (other than the obvious ones with the largest debt load) are those whose business model attempts cater to broad audiences; the so-called "Jacks-of-all trades," which are in the process of becoming exposed as "masters of none."

Those companies that spent the bull market expanding product lines, conglomerates such as General Electric (GE), mass retailers such as Wal-Mart (WMT) and Target (TGT), automakers that make every type of car and truck like General Motors (GM) and Ford (F), banks such as Citigroup (C) that once had a hand in almost every financial-based revenue activity unimaginable, will spend the next year dismantling and dissolving many of their business lines.

Another, related, aspect of this will be the return of the entrepreneur. If it is true that necessity is the mother of invention, then wide-ranging necessity will lay the groundwork in 2009 for sparking a re-invention of self-employment and entrepreneurial activity. Because access to credit will remain tight, this activity will take time to develop. But if there is a silver lining to the coming despair it will be the return of entrepreneurial problem solving.

In memory of our fallen friend and trusted colleague, Bennet Sedacca, 100% of the donations made to the RP Foundation through April will be channeled to philanthropic endeavors consistent with the RP mission, working closely with the Sedacca clan in the distribution of those funds. We thank you kindly for your support as we strive to effect positive change in the lives of children.
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