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XMFSinchiruna (27.06)

The Depression Quietly Deepens

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June 14, 2009 – Comments (13)

Here's another thought-provoking look at the economic outlook from a more global perspective. While I must say that Ambrose suffers here from the very common failure to distinguish between economic contraction as a deflationary input and the far greater inflationary implications of a crisis of confidence in the USD, I nonetheless find great value in his perspective. Enjoy!

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5461562/Merkels-inflationary-fretting-may-wake-the-bears-from-hibernation.html

The depression quietly deepens It is lonely in the diminishing camp of bears, says Ambrose Evans-Pritchard.

Those of us who still question whether the world has purged its toxins are reduced to the same tiny band of moaning Druids from early 2007, when we shook our heads in disbelief as the carry trade swept Iceland to fresh madness and bankers laughed off sub-prime rot at Bear Stearns.

We learned then to thicken our skins with walnut juice, lie down in dark rooms, and dissent from Goldman Sachs. Such seclusion is called for once again as Goldman replays its BRIC anthem and raises its oil forecast to $85 a barrel this year, betting that the world will roar back on a tidal wave of liquidity.

It is perhaps unkind to mention that Goldman issued a $200 call at the top of the speculative frenzy last year, just before oil crashed, but they have broad shoulders.

Note that Total's Jean-Jacques Mosconi said markets are awash with so much crude that almost 100m barrels (a near record) are stored on tankers at sea. Note too that May electricity use fell 10pc in China's industrial hub of Guangdong from a year earlier. This is revealing, given that China's fiscal boost has reached peak and will fade later this year.

For guidance on where we are in this long-drawn saga, I look to Berkeley's Barry Eichengreen, author of the Great Depression classic Golden Fetters – which avoids the error of viewing the 1930s through a US prism.

He has crunched the latest data with Trinity College Dublin's Kevin O'Rourke for VoxEU, concluding that the global rupture over the last nine months has been more violent than in the early slump. This is logical. Global debt leverage is much greater this time.

The fall in industrial output has been roughly equal to the 1929-1930 stage for Germany and the Anglo-Saxons, but worse for Japan, France, Italy, and Eastern Europe. The collapse in world trade has been swifter: the global equity crash has been twice as bad. "It's a depression alright. The good news is that the policy response is very different. The question now is whether that response will work," they said.

The elastic was bound to snap back, just as it did in the bear rally of early 1931. Whether the underlying economy has begun to heal is another matter. World Bank chief economist Justin Yifu Lin said capacity utilization is running at an historic low of 50pc-60pc. Companies will have to fire a lot of workers. This is where the danger lies, and why he fears that deflation is creeping up on us.

Trade data from Asia are flashing warning signals again. Korea's exports were down 28.3pc in May, reversing the April rebound. Malaysia has slipped to -26pc, and India has touched a new low of -33pc.

US freight data is getting worse, not better. The Association of American Railroads said traffic was down 22pc in the third week of May from a year earlier. Canadian freight was down 34pc.

The American Trucking Association (ATA) said it saw fresh drops of 4.5pc in March and a further 2.2pc in April. Tonnage is down 13pc over 12 months. Bob Costello, the ATA's chief economist, said companies have not cut inventories fast enough to keep pace with declining sales. The contraction in truck volume has "accelerated".

Yes, the Baltic Dry Index for bulk shipping of resources has quadrupled since January, but this reflects China's bid to stockpile metals while prices are low.

Stephen Roach, Morgan Stanley's Far East chief, fears an "Asian Relapse", saying the region is prisoner to its fatal dependency on exports to the West. The export share of GDP has risen from 36pc to 47pc across developing Asia over the last decade.

"China's incipient rebound relies on a time-worn stimulus formula: upping the ante on infrastructure spending in anticipation of an eventual rebound of global demand," he said. The strategy cannot work this time because Americans have exhausted their credit, and their desire to borrow. Consumption will fall from its peak of 72pc of GDP to the "pre-bubble norm" of 67pc, if not more.

David Rosenberg from Gluskins Sheff expects Americans to retrench ferociously as 78m baby boomers face the looming threat of penury in old age. "The big story is that the personal savings rate hit a 15-year high of 5.7pc in April. I believe it could test the post-War peak of 15pc. Too many pundits are still living in the old paradigm of Americans shopping till they drop," he said.

If he is right, this will shatter the surplus economies of China, Japan, and Germany, unless they adjust fast to the new world order. Germany does not even seem to understand the problem it faces. Chancellor Angela Merkel lashed out last week at quantitative easing by the Fed, the Bank of England, and the European Central Bank, repeating the silly mantra that this will set off an inflationary storm.

How can it do so when the velocity of circulation has collapsed, and unemployment is rising everywhere? The Fed's "monetary multiplier" ended last week at 0.867, half its average of 1.7 over the last decade. The credit mechanism is still broken. This is what happened in Japan in its Lost Decade.

The ECB says the eurozone economy will contract until mid-2010, at best. Germany's trade association (Wirtschaftsverbände) warned Mrs Merkel last week that the credit drought threatens to become "life-threatening by the summer at the latest".

The list of countries in deflation is growing every month: Ireland (-3.5), Thailand (-3.3), China (-1.5), Switzerland (-1), Spain (-0.8), the US (-0.7), Singapore (-0.7), Taiwan (-0.5), Belgium (-0.4), Japan (-0.1), Sweden (-0.1), Germany (0).

Yet markets seem to think otherwise, and this has its own awful consequences. Inflation fears have driven 10-year US Treasury yields to 3.86pc, a full point above levels in March when the Fed intervened to force rates down. US mortgage rates have jumped to 5.29pc. Gilts have reached 3.92pc, and French 10-year bonds are at 4.05pc.

This bond revolt is enough to bring any global recovery to a shuddering halt. The irony is that those fretting loudest about inflation may themselves tip us into outright deflation, with all the perils of a debt compound trap. It is Angela Merkel who plays with fire.

 

 

 

 

13 Comments – Post Your Own

#1) On June 14, 2009 at 11:54 AM, awallejr (78.92) wrote:

"China's incipient rebound relies on a time-worn stimulus formula: upping the ante on infrastructure spending in anticipation of an eventual rebound of global demand," he said. The strategy cannot work this time because Americans have exhausted their credit, and their desire to borrow. Consumption will fall from its peak of 72pc of GDP to the "pre-bubble norm" of 67pc, if not more."

Partly true and partly false.  China is doing the right kind of stimulus because its Country really does need the infrastructure building and they have the surplus money to do it.  I do agree, however, that there won't be a return to reckless buying on our part.  And to a large extent it is from a retrenchment by aging Americans.  However, this aging population will still spend, but on different things related to their age/retirement status.

 

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#2) On June 14, 2009 at 12:12 PM, alstry (36.34) wrote:

You are beginning to sound like Alstry!!!!!!!!!!!!!!!!!!

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#3) On June 14, 2009 at 12:22 PM, kaskoosek (36.11) wrote:

Merkel is the only sane person.

 

This article is trash. 

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#4) On June 14, 2009 at 12:35 PM, portefeuille (99.66) wrote:

Well, as a German citizen I would like to object to comment #3 and add my favourite inflation/deflation video by another guy from Britain:

inflation, inflation, inflation ...

also watch the 4th video here (the bottom one!):

Video #4 - Mar 11: "We are grossly underestimating the impact of the falling sterling, and quantitative easing is going to bring a further fall in sterling," (you can start at minute 5 on this one - and Hendry simply undresses Liam Halligan)

 

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#5) On June 14, 2009 at 12:57 PM, XMFSinchiruna (27.06) wrote:

kaskoosek

His conclusions are incorrect, but there is value hidden in this article. :)

Those of us who still question whether the world has purged its toxins are reduced to the same tiny band of moaning Druids from early 2007, when we shook our heads in disbelief as the carry trade swept Iceland to fresh madness and bankers laughed off sub-prime rot at Bear Stearns.

We learned then to thicken our skins with walnut juice, lie down in dark rooms, and dissent from Goldman Sachs. Such seclusion is called for once again as Goldman replays its BRIC anthem and raises its oil forecast to $85 a barrel this year, betting that the world will roar back on a tidal wave of liquidity.

The elastic was bound to snap back, just as it did in the bear rally of early 1931. Whether the underlying economy has begun to heal is another matter. World Bank chief economist Justin Yifu Lin said capacity utilization is running at an historic low of 50pc-60pc. Companies will have to fire a lot of workers.

Trade data from Asia are flashing warning signals again. Korea's exports were down 28.3pc in May, reversing the April rebound. Malaysia has slipped to -26pc, and India has touched a new low of -33pc.

David Rosenberg from Gluskins Sheff expects Americans to retrench ferociously as 78m baby boomers face the looming threat of penury in old age. "The big story is that the personal savings rate hit a 15-year high of 5.7pc in April. I believe it could test the post-War peak of 15pc. Too many pundits are still living in the old paradigm of Americans shopping till they drop," he said. 

This bond revolt is enough to bring any global recovery to a shuddering halt.

Those are the pearls in this oyster ... everything else is off the mark. In a media world filled with mounds of complete trash, you have to give AEP credit for keeping an eye on some of the important development in the global stage ... even though he may draw some very unfortunate conclusions therefrom. :)

Fool on!

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#6) On June 14, 2009 at 5:40 PM, JGus (28.85) wrote:

Quit stealing from my blog : ) The Irony of It All...

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#7) On June 14, 2009 at 10:55 PM, ChrisGraley (29.72) wrote:

I was saving this link for my own blog post, but I've seen Porty post the same link to that deflationary nut for a while now and it gets my blood pressure going every time, so I thought I'd share my thoughts.

I was actually hoping that we would take a deflationary approach to the economy, because I believe it would give us a softer landing. An inflationary approach added to 25 years of hidden inflation that we've had is just adding to a greater disaster. For those of you that think we can easily deflate the bubble once it's pumped up you are mistaken. There are a few things that we can't control...

1) Most crucially how other countries value our credit.

2) The stability of other economies.

3) The ability to change our minds mid-stream if we take an inflationary approach.

We have already seen hints that Russia and China are balking at our debt and I don't blame them. We can't possibly pay our debt. Our debt and unfunded obligations are much greater than the entire world GDP already, and we are pumping a record amount of dollars into the system this year.

More than half of the European economies are in the same boat that we are and I believe that Britain and France may be in a worse position.

The problem with when you choose to inflate, that is that if you later choose to deflate, you have to deflate that much more. Our leaders know this, and they know that we actually, not only have deflate what we did this year, but we have to deflate the last 25 years, if we choose to deflate before we get a good economic turn around with inflation. We'll still have to deflate those last 25 years later even if inflation works, but I think by going with the inflationary plan, we are sticking with the American tradition of worrying about later, much later.

The fact is that since we need even more money to switch to a deflationary route, we can't change our minds mid-stream even if we want to.

Porty's friend suffers from picking numbers over the human factor of manipulation. He's assuming that the US will discover  that they made a wrong choice and correct it. I'm saying that they aren't that smart. Even if they were that smart, we don't have the time or the money to change direction. I'm hoping he buys the bonds he's talking about, because it will help the inflationary plan we have in place. It will fail anyway.

Anyone that thinks we can see deflation without a conscience effort, given the amount of money that we inflated the economy with is dilluted.

 

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#8) On June 14, 2009 at 11:43 PM, russiangambit (29.43) wrote:

Chris, I am with you on this one. Hendry's comparison to Japan fails because Japan was a creditor, not a debtor. For their population and politicians, deflation was much more acceptable than to us. Deflation will come, but first it will be inflation from all the "fixing" of our economy by Fed and Treasury. Only after all fails, a couple years from now we will see deflation. Only after all the fixers give up or are booted out of the office.

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#9) On June 14, 2009 at 11:44 PM, vmh104 (< 20) wrote:

ChrisGraley;

Anyone that thinks we can see deflation without a conscience effort, given the amount of money that we inflated the economy with is dilluted.

Dude, that's crazy talk... you're making my head explode;

So wait... deflation is related to conscience??? I'm not conscious of that at all... should I make a bigger effort? Or will that trigger a market crash?

And...  Anyone that thinks [...] is dilluted. So let me get this straight... without an effort of conscience... we will see no deflation... but we our selves in our very being will be deluted?? deflation of the human person???? This is fascinating... so will I lose weight? 

;)

 Vincent

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#10) On June 15, 2009 at 12:50 AM, kaskoosek (36.11) wrote:

ChrisGraley

I think that russian's point is very important.

Huge difference between Japan and US.

As a whole the US is a debtor, while Japan is a creditor.

The dollar must continue to depreciate in order for the current account balance to become positive in order to compensate for the previous levels of consumption. So the dollar is artificaially inflated, because for some reason there is high demand for it.

However for the case of Japan, I would have to say that the YEN is and was cheap. The only thing the government did was slow the deleveraging process and let the government shoulder some of the debt. But as a whole the Japanese economy and its citizens did not have negative equity. That is much different for the case of the US.

 

So you will not see Japanese citizens fleeing the YEN, however you will see foreign creditors fleeing the dollar in the future.

 

 

 

 

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#11) On June 15, 2009 at 3:42 AM, SirCharms (< 20) wrote:

I guess I don't understand the hostility towards one side of the debate or the other but feel free to use personal attacks to debate anything I say:

In 2008 the dollar outperformed almost every asset class. This was clearly going on despite the fact that the Fed, the treasury and congress were throwing money at the problem. Why were we deflating at that time? No base money was being destroyed...It's because trillions of dollars in credit were being destroyed. Much much more than was being created by the government's various apparati.

In 2009, almost the exact opposite has happened, but not to the same extent. To me it looks like a dollar technical bounce, but I can't argue with the obvious: prices have increased across the board.

The issue is twofold - The credit conditions are arguably worsening especially with mortgage rates increasing so rapidly over the last few weeks and we have a whole crapload of option arms resetting in the next 18 or so months. I don't see how one could conclude that credit will expand over that period, and thus don't see how one comes to the "inflation" conclusion even given the extra base money that's been added.

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#12) On June 15, 2009 at 5:14 AM, kaskoosek (36.11) wrote:

A current account surplus means you have the ability to accumulate assets relative to the extra currency that is put in circulation.

 

Sort of like a company does a secondary offering in order to aquire another company.

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#13) On June 15, 2009 at 6:12 PM, vmh104 (< 20) wrote:

The Depression Quietly Deepens

As my guitar gently weeps 

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