With Treasury bond yields at or near historically low levels on one hand but with commodity prices near 8 month highs, and with the personal feeling that outside of a home, a computer and a flat screen tv, the cost of living seems to only go higher on the other hand, here is another perspective on the inflation/deflation debate. Since June 1981 when Volker started to lower interest rates from 20% as high inflation rates started to fall, the absolute level of CPI rose 142% to the high in July ’08 (90.5 to 217). Deflation is defined as a decrease in the general price level of goods and services but to quantify the current fall in prices, the CPI has fallen just 1% from its all time high. This tiny price move, notwithstanding we are still near an all time high in the daily cost of living, has led to talk that the Fed needs to do more to avoid deflation at all costs and thus create inflation via more QE. An example, oil goes from $50 to $85 in one year and the next year falls 1% to $84.15 and we’re told there is deflation and deflation is bad.

The view is that with excess capacity and a lack of demand combining for softer prices, we must have even lower interest rates to spur more borrowing and thus more economic activity to increase demand and thus reduce the large output gap. Think about this, policy makers think we should raise the cost of goods and services in order to cure a lack of demand. The law of supply and demand says lower demand must be met by lower prices in order to get to the proper equilibrium. What the Fed really wants to do is create inflation in order to not deal with an overleveraged economy in the most responsible way, either paying debt off or writing it down. They want us to pay off the debts with inflation. Inflation is a hidden tax on every single one of us and thus the corollary is deflation is a tax cut. Inflation is good for those who are highly indebted as those debts get paid back with inflated money while deflation or flat prices are good for those who save and have little debt and vice versa.

In the state of deleveraging the US is in where the low cost of money doesn’t matter much to an individual or a business in making spending and investment decisions, artificially low rates mostly spurs just refinancing and higher commodity prices. While maybe or maybe not higher commodity prices makes there way into government consumer price statistics, the commodity inflation is still there and has to be eaten by someone. Food for thought.

Category: MacroNotes

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

16 Responses to “Food for thoughts on prices”

  1. Pure-Water says:

    I agree with everything you wrote, but I think their inflation policy is even more sinister, it’s another clandestine bank bailout. If you get deflation, you’re going to have even more loan defaults and that would hurt the banks and we can’t have that. Moreover, deflation helps the middle-class improve their standard of living but the government can’t figure out a way to tax that, hence, inflation is the policy the government wants. Even worse, they put out a bunch of propaganda that you can’t have economic growth without inflation. The inflation drives people to take on more debt and save less…the exact opposite of what people need to do to become wealthy.

  2. baychev says:

    It appears we have reached an inflexion point and cannot accumulate more debt even if we want to because we hardly service the present debt burden. regardless how we shuffle it from personal accounts to banks to GSEs, to government, we hardly service it. Real incomes are stagnant only hedonistically adjusted and imputed incomes are rising due to shenanigans.

  3. boston says:

    the new way to look for a job: consider the “real” costs (i.e. energy) and opportunities (i.e. producing energy for society). if the U.S. is in a declining run (so globally wages can balance), then be careful what job you take (especially Gen Y, & recent graduates) so you don’t end up in a declining wage area. the future growth is not in nursing, or nursing homes, but in making exports … whatever they will/might be.

  4. boston says:

    oops, sorry. i meant my above comment for the “looking for a job” article. (never mind.) non sequitor.

    as for the deflation/inflation problems. it sucks wind that i’m finally paying off my credit cards in a deflationary environment (hard to do) but once i’m out of debt … inflation will be baaack. ::sigh::

    oh well. being out of debt is always better than being in debt, for personal finance. always. cheers.

  5. ashpelham2 says:

    Boston, are you saying that America is going to be a manufacturing center once again? Another question is at what point do we ever think the Fed can raise rates to levels that are commisurate with what we would normally expect (6-8% range)? I don’t know if we’ll see 8% interest rates again in my lifetime.

  6. Mike in Nola says:

    Depends on what you look at. Some of the markets cited, like food and oil, are really being driven by speculation fueled by liquidity.

    Other costs have dropped significantly.

    Houses in many places are 30-40% cheaper than a few years ago, some places cheaper. Considering that houses are the biggest item most people buy, a drop of that magnitude pays for a lot of a lot of twinkies.

    There is also the fact that many list prices are being held steady while coupons and discounts are freely offered. It is alleged that rents are firming, but every complex I drive by has signs out offering “Move-in Specials” which means some number of months free rent; again a form of discount.

    And all this at the cost of a couple of trillion $. Imagine if they hadn’t given that much away.

  7. seanTZ says:

    I would definitely like to see more words written on this topic.

    Is it beneficial to inflate the cost of home prices with 40 mil people on food stamps, probable longterm instability in the job market, raising healthcare costs, and broke states having to pay higher public/gov salaries in high cost of living areas?

    Is the price of tech measured correctly? If I buy one gallon of milk a week @ $2, and then start buying 2 gallons a week @ $1.90, and then need 3 gallons a week @ $1.75…spending more on tech but at lower unit prices, is that deflation?

  8. boston says:

    @ash pelham 2

    Yes, I think the US will regain it’s productivity and creativity and interest in manufacturing.

    I think part of the reason we were/are willing to salvage the US auto industry is not just the jobs but also the ability to do manufacturing, as a national interest, or national security interest, in the long run. The long run, however, could be many decades, or just a few years. (I’d bet it’s a few years.)

    As for Fed rates, they haven’t been in the 6 to 8% range in 20 years, in the US, so I’d be expecting more modest gains, say the +/- 4%, yes, in your lifetime (and mine). My bet is within 2 to 3 years, along with – unfortunately – inflationary pressures. There are always trade-offs.

    At least, if my humble household is out of debt, that will free up some investing ability. Assuming I’m still gainfully employed. I’m an optimist, generally, so I’m paying down my mortgage aggressively.

    My $0.02, etc.

  9. ashpelham2 says:

    Thank you for the clarification, boston. While it’s hard for me to agree with you on the subject of the US becoming a manufacturing giant again, it’s not hard for me to understand that we still do make a lot of products here. But let it be known that the assault on those manufacturing entities here in the US is in full force, as no one wants to pay more than a dollar for anything anymore. Well, except for “i-thingys”. The world’s largest retailer is combing the earth trying to find the lowest cost items it can, and bring those to the stores it has in every town. We do not have the lowest costs here in the US, thus, our manufacturing base gets cut.

    What needed to happen was for some of the forces that were conspiring against us during the run up in petro prices to have lost their shirts when the markets turned on them. Bear Stearns was put out. Lehman was put out. But the big boys like JPM, GS, and CITI stayed alive through gov’ment intervention, so the field was permanently unleveled. Those big boys lost some money, got Uncle Sam to write them a check, and they promptly put it back to work making more money. For themselves.

  10. Mike in Nola says:

    Interesting notes on Lever Bros., whose earnings rose 40% but still disappointed it shows the pressure retailers are under to hold prices down, even with commodities rising:
    With the global economy emerging from recession, many consumers have remained cautious in their spending, often looking for the deals and better values. Procter & Gamble (PG) felt the same pressures in its recent results. With tight consumer spending, which prevent the companies from raising prices even amid commodity inflation, many consumer-goods companies experienced margin squeezes.
    Underlying sales growth, which disappointed investors, was 3.6% as selling prices fell 2% compared to the year-ago period.

    See full article from DailyFinance: http://www.dailyfinance.com/story/investing/unilever-earnings-rise-amid-warning-of-tough-second-half/19582440/?icid=sphere_copyright

  11. impermanence says:

    Although you can certainly have deflation (money and credit) and inflation (commodity) simultaneously, one rarely hears the effects that market corruption play on prices. And only God knows how corrupt every market is at this point.

  12. Machiavelli999 says:

    “If you get deflation, you’re going to have even more loan defaults and that would hurt the banks and we can’t have that. ”

    Wrong. Deflation doesn’t just mean falling prices. It means falling wages and jobs lost. We had huge deflation during the Great Depression. How much did that improve the lives of the middle class?

  13. Machiavelli999 says:

    “Think about this, policy makers think we should raise the cost of goods and services in order to cure a lack of demand…”

    Wow, this is the type of stuff I get from my neighbor. Not a professional economist. Where did you find this guy Barry?

    What you wrote sounds great and is great populist sh*t but the fact of the matter is deflation is bad and has always accompanied periods of economic decline.


  14. klarike says:

    First off, it’s misleading to think of inflation or deflation as a tax increase or cut. Inflation and deflation change real income.

    Secondly, deflation has two causes, one good and one bad. First and best, is deflation caused by productivity, gains like we have seen in computers and cell phones. It’s like a pay raise. Deflation caused by a lack of demand means lower sales, which in turn reduces demand for labor. That will lead to lower wages and a reduction of real income, since wages must fall to adjust to deflation to maintain employment. For business to begin hiring in a deflationary period, caused by excess supply, wages will need to fall faster than deflation otherwise profits will continue to fall. It’s a vicious cycle. Deflation in housing restricts labor mobility so people are not able to shift from decaying sectors to growing sectors of the economy. This will hold back productivity which restricts economic growth.

    Inflation has its costs too. A higher price for a good or service is never a good thing unless it’s a result of an increase of the quality (will raise the utility of a good). Inflation as a monetary phenomenon can reduce real income if wages do not match inflation. It can also drain an economy of its income if inflation is higher for imports, like oil. It also has menu costs as business work to price their goods and services.

    Inflation can also act as a redistribution mechanism of wealth from creditors to borrowers, if the creditor is not protected. The reverse is true for deflation; however, if deflation is great enough debtors may be unable to repay their commitments and default. Which will reduce income, demand and wages.

  15. BPman says:

    Nice post Klarike.

    If the article had started with the facts:
    12 month CPI increased 1.1%
    12 month CPI less food and energy .9%
    12 month Energy only increased +3%
    12 month Fuel oil +16.6%

    One would find no argument for anything but being dangerously close to deflation and that expect speculation is responsible for Fuel oil increase. Our current economic state is not stable and there are no driving forces for upward improvement at the moment.

    And for the producers?
    12 month producer price – finished goods +2.8
    12 month finished goods less food and energy +.1

    During times of full employment, it might be possible the producers could push through a small price increase. Those attempting to do so with current demand levels had best be prepared for a lot of push back.

    This article provided more disinformation than credible perspective.

  16. [...] of Miller Tabak (Peter publishes the very fine Macro Notes blog here on TBP). So when Saut quotes Boockvar about the lack of deflation, it forces me to think carefully about my [...]