Is Inflation a Fact… Or Just an Opinion? Part II

Yesterday I outlined the basic arguments for why inflation is believed to have hit the market or will be soon. In a nutshell, inflationists look at the Fed’s money printing as shown by the US Monetary Base and claim that inflation must be just around the corner.

But the facts do not support this… at least not just yet.

Inflation ultimately boils down to a debasement of currency. The US (and the world’s) reserve currency is the dollar. And the dollar, despite all of the Fed’s debasing efforts, is currently trading higher than it was BEFORE Bear Stearns.

Indeed, when the dollar index bottomed at 72 in July 2008, the Fed had committed less than $500 billion in bailout funds/ intervention. Since then, the Fed has:

• Spent $400 billion on Fannie (FNM)/ Freddie (FRE) (Sept ’08).

• Taken over insurance company AIG (Sept ’08) for $85 billion.

• Doled out $25 billion for the auto makers (Sept ’08)

• Kicked off the $700 billion Troubled Assets Relief Program (TARP) (Oct ’08)

• Backstopped $540 billion in money market funds (Oct ’08)

• Backed up to $280 billion of Citigroup’s (C) liabilities (Oct ’08).

• Given $40 billion more to AIG (Nov ’08)

• Backed up $140 billion of Bank of America’s (BAC) liabilities (Jan ’09)

• Spent another $787 billion in the Stimulus Plan (Jan ’09)

• Announced plans to buy $500 billion worth of mortgages (Jan ’09)

• Announced plans to buy $300 billion of Treasuries (Mar ’09)

• Announced plans to buy another $750 billion worth of mortgages (Mar ’09)

This is a staggering, and I mean STAGGERING amount of money being thrown around. And yet, the dollar today is actually a full 11% HIGHER than it was in July 2008.

Meanwhile, commodities across the board (even gold) have failed to re-test their 2008 highs:

This is beyond bizarre. The world is currently operating under a fiat currency discipline: meaning no major currency is backed by anything of real value. Under this discipline, the Fed (and central banks around the world) are pumping TRILLIONS into the world’s financial system… and yet commodities and other traditional inflation hedges have FAILED to best their July 2008 highs (a time when Central Banks had yet to commit substantial funds to battling the crisis).

They’ve also failed to best their July 2008 highs despite the fact that EVERYONE (even the coffee shop crowd) is worried about inflation.

To be blunt, either the market has lost any ability to discount the future what-so-ever, or the inflation story is not actually as simple as inflationists have claimed (money printing= inflation). I’m inclined to believe the latter, as indeed, nothing is ever quite what it seems or as simple as people make out.

Indeed, the dollar chart and commodity charts paint a very different picture from the common opinion that “the Fed is printing dollars ad infinitum and inflation is exploding higher.” Clearly, the market is trying to tell us something different. What is it?

I’ll detail exactly what in tomorrow’s essay. Until then…

Good Investing!

Comments

[DONE_SONZ:]

Inflation is the game plan whether we are there yet or not.

Jul 02 10:52 AM

[Mark Anthony:]

Money Printing = INFLATION

That's an eternal truth. It has always been true in history and will always remain true. But it does not mean you see inflation immediately. But I still see it coming imminently.

The fact of the matter is no one is making any money, so current market price of mechants and commodities are all aberrations and do not reflect where they should go. Don't be fooled by temporary aberration that it seems things are selling cheap and there is no inflation. Producers will be crushed, cutting supply, and then you will see inflation kick in.

Another factor is currency speculators helped to EXPORT our inflation to China. Inflation is happening in China, right now. You just need to read the news. Here is how things work:
seekingalpha.com/artic...

I do not think we will have to wait multiple years to see inflation. We will see it in 2 or 3 months.

Jul 02 11:07 AM

[Prudent Man...:]

The seeds of inflation, like a cancer, are planted. Sooner or later they will manifest themselves and must be confronted. The longer we wait and the longer we practice injurious behavior the bigger the resulting problem will be and the tougher it will be to treat and cure.

Jul 02 11:11 AM

[AssetReset:]

Printing with reckless abandon
How can that not be inflation?

The only deflationary spins I constantly hear spinning is the FED

Remember: every key stroke increases QE 10 fold

Jul 02 11:43 AM

[twitee:]

You need to think of the dollar as the sun. During the booming world economies, even the currency of the third world (the farthest away from sun) countries have the enough energy from the sun and become strong currencies. As the center of the world economy ($US) weakens all other currencies convert to dollar to preserve their value. This process will take months and even years.

We are in the center of this transition where Gold is building major resistance and support near $1000 as an insurance and waiting for the next shoe to drop to pass over $1000. This is a major psychological barrier for gold.

What has slowed down the process is the Federal Reserve manipulation by handing stimulus money to the banks to create a fake equity market rally.

We will see the true impact of all the mess before 2012.

Jul 02 12:08 PM

[Mayer Amsch...:]

I suggest that our inflationary situation is more like Argentina's - I think that once/if hyperinflation hits, it will hit hard and force us to change policy, I don't think we can keep inflating recklessly after that point. I think this because debt-based monetary inflation doesn't look like it's coming back any time soon, but capital flight from foreign governments looms. Which is exactly what happened in Argentina - all at once people dropped their currency and the velocity of money skyrocketed, but then it leveled off. Here is (yet another) good article (this is about 7 yrs. old from a German source)
www.nationalbanken.dk/.../$file/nb06.htm

I'm going to try to link to a graph of Argeninian annual inflation from the article. Haven't tried HTML in a comment yet, let's see what happens.
<img src="images.google.com/url?...">

Jul 02 12:38 PM

[Fighting Yoda:]

"Inflation ultimately boils down to a debasement of currency." - where did this come from? Everyone buys in their own local currency, US has an added advantage of $ being the reserve currency - so $ debasement does not really cause inflation. Specific commodity price rises are due to demand/supply dynamics not inflation. "Inflation" is an overall price rise phenomena that almost is necessarily coupled with nominal wage growth. That is not the case currently - so inflation is a highly unlikely outcome in the short/medium term.

Don't forget the commodity prices rose long before Fed started printing money - and have fallen a lot since Fed started printing.

Jul 02 05:53 PM

[anarchist:]

I realize that the consensus opinion here as SA is "hyperinflation" is a given, say differently and you get disgraced with "thumbs down", oh no, anything but that!! But hyperinflationist are assuming the Fed and Treasury cant sop up the extra liquidity once the banks start to lend and money starts to move again, this idea may or may not be true but no one knows. There may be some inflation down the line but the Fed knows how to fight inflation. Even assuming the Fed and Treasury will not time it precisely I doubt that there will be hyperinflation.

Jul 02 09:00 PM

[LilBob:]

The relative strength of the dollar currently is largely correlated to declines in automobile use and oil consumption. Inflation is going to be causally linked to oil consumption once the economy picks up again, and energy costs will become a political factor affecting the Fed's ability to absorb available capital. Oil futures are likely to be relatively soft for the next few months. Once the job market does start improving, if Americans go back to buying gas-guzzling SUV's, then high energy costs will weaken the dollar and we will see massive inflation. If Americans have been burned enough by this recession that Ge-X-ers start hoarding cash like the WWII generation did, then inflation will be relatively more mild.

Jul 02 09:36 PM

[Danny Newton:]

I am trying to imagine what will happen when the government gives away Cap and Trade allowances and then begins selling them after an auction finally determines the real price. If you didn't give away part of the bank to all the players, you could not play Monopoly.

Lets say the allowances were Confederate Money and suddenly they became worth something. The money supply should suddenly spike after the auctions. I think this would be a good time to get into the carbon sequestration business. Selling allowances would be a great business if you were set up in Mexico or China where buying the allowances was not required. A utility with a fresh pile of free allowances might consider going out of business just to liquidate the allowances after they have an established value and turn them into real money. Maybe Obama will make executives take their bonuses as Cap and Trade Allowances?

Jul 03 04:47 AM

[pimpjui:]

"The world is currently operating under a fiat currency discipline: meaning no major currency is backed by anything of real value."

You already gave us the answer. If currency debasement is the worst thing the US does, then it has very good company (e.g Switzerland).

Fiat currency is not about how much is printed. By definition, it is already worthless.

It's about confidence levels in the government that issues it. It should be painfully clear that for various reasons, most of the world still has great confidence in the US system.

The most probable inter-dependent reasons are:

1) US military might trumps all (if you can get nuked into oblivion, the expected value of your currency will be worth less than that of the nuker.)

2) US market liquidity is tops, hence the liquidity premium of the currency.

3) US market elasticity. Name one 1st world market that can drop 40% and at the same time keep the standard of living for its people at pretty much the same level. The UK is probably the only close 2nd.

Jul 03 08:14 AM

[Vienna:]

"dollar as the sun"
"center of the world economy ($US)"

? .. wow

On Jul 02 12:08 PM twitee wrote:

> You need to think of the dollar as the sun. During the booming world
> economies, even the currency of the third world (the farthest away
> from sun) countries have the enough energy from the sun and become
> strong currencies. As the center of the world economy ($US) weakens
> all other currencies convert to dollar to preserve their value. This
> process will take months and even years.
>
> We are in the center of this transition where Gold is building major
> resistance and support near $1000 as an insurance and waiting for
> the next shoe to drop to pass over $1000. This is a major psychological
> barrier for gold.
>
> What has slowed down the process is the Federal Reserve manipulation
> by handing stimulus money to the banks to create a fake equity market
> rally.
>
> We will see the true impact of all the mess before 2012.

Jul 03 09:49 AM

[baptah:]

The fact that seems to escape your grasp is that the rate of money destruction is still higher than the rate of money creation. Created money has zero velocity - it's just sitting on the banks' books. As soon as it starts moving, we'll have inflation allright, but not before then. Six to twelve months, I'm guessing.

Jul 04 06:44 PM

[Benny the Cat:]

Graham... I think you're a pretty smart person and I read all your articles. I'm a big fan...keep up the great work! Meow for now...Benny... AskBennyTheCat.com

Jul 05 06:05 PM

[upgrayed:]

The wealth destruction of the recent market collapse is the deflationary counterbalance to the inflationary money printing now occurring. The government will print itself all the money it can get away with without precipitating hyperinflation and probably a little bit extra to boot.

Jul 20 07:19 PM