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binv271828 (< 20)

Zeal: Big Inflation Coming 2

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June 09, 2009 – Comments (20) | RELATED TICKERS: CEF , USL

Here is a good article by Adam Hamilton of Zeal regarding inflation (and the "deflation scare" that preceded this current inflationary round). Like many of us have talked about in the past, inflation is not rising prices ("price inflation" is a by-product of true inflation: monetary inflation). The deflation scare was a good setup to allow the Fed to kick the inflation transmission (via QE, the newest inflationary instrument) into a new gear.

While many assets, including stocks, will tend to benefit from this in the near term (rise in real terms, flat in nominal terms), commodities will moreso, and gold will even more. But then when the Fundamentals are uncovered for how bad they really are (see the last several posts in my binve portfolio) after this rally / bear market correction eventually runs itself out, I believe stocks will fall in both nominal and real terms in the coming years. 

The only true beneficiaries of these inflationary policies are debt holders and holders of real assets, namely commodities and gold.

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Big Inflation Coming 2 http://www.zealllc.com/2009/biginf2.htm
by Adam Hamilton
June 05, 2009   

At the height of the stock panic in late November, the flagship S&P 500 stock index had plunged 49% year-to-date. Fully 2/3rds of this decline happened in the 9 weeks leading into the panic lows! Naturally the psychological impact of such an epic selloff was utterly massive. Fear exploded to unprecedented extremes.

A stock panic is a bubble in fear, and succumbing to this overwhelming fear leads to irrational selling near lows. But interestingly at the time, investors failed to recognize this truth. They sold aggressively, and they wrongly assumed their selling was rational. Of course the only thing that would warrant a 38% loss in the stock markets in just over 2 months was a new depression. So depression fears mushroomed.

With a depression comes deflation, so deflationary theories became widely accepted in December and January. Yet there was one big problem. Deflation is purely a monetary phenomenon. If prices of anything are falling simply for their own intrinsic supply-and-demand reasons, and not as a consequence of monetary contraction, then it is not deflation. In reality, the money supply was skyrocketing in the panic.

With the Fed ramping the US dollar supply far faster than the pool of goods and services on which to spend it, inflation was inevitable. Relatively more dollars bidding on relatively fewer things means higher general prices, the formula is simple. I wrote an essay on the big inflation coming in January, when deflation fears reigned supreme, using the Fed's own data to highlight the staggering monetary growth.

Saying it was inflation that was coming, not deflation, was extraordinarily controversial just 5 months ago. You would not believe the firestorm of flak I weathered for pointing out the threat of inflation. Being contrarian never wins friends. But not surprisingly, today the consensus view on money is shifting to an inflationary bias. With a more receptive audience not blinded by fear, I thought I'd update this analysis.

Sadly inflation is woefully misunderstood in popular culture. People tend to think it is simply "rising prices", but this is incorrect. The formal dictionary definition of this word is "a persistent, substantial rise in the general level of prices related to an increase in the volume of money and resulting in the loss of value of currency". The key is the rising prices have to be driven by an increasing money supply.

Consider an example. If the Fed doubles the money supply and hence gasoline prices ultimately double, this is inflation. More dollars are bidding on the same amount of gasoline, driving up its nominal price. But if some calamity takes Saudi Arabia offline, and gasoline prices double, that has nothing to do with inflation. Supply contracted sharply, demand remained constant, and hence prices rose. These are two different scenarios leading to the same outcome, but only one is inflation.

And the reality is the prices of everything are derived from a complicated mix of the supply and demand of any particular item and the supply and demand of money itself. So usually a given price increase has a commodity supply-and-demand-driven component as well as a separate money-driven component. This is why it is notoriously hard to measure inflation and why average folks have a tough time understanding it.

Since separating out price effects is virtually impossible, it makes far more sense to look at the cause of inflation. That is money supplies increasing at faster rates than the underlying economy. If you think of price inflation as smoke, an effect, then why not look for the fire that creates it, the cause? This fire is excessive monetary expansion. When a fire initially flares brightly, there might not be smoke right away. But there sure will be if it keeps burning!

Only a central bank can directly affect the base money supply. Yes, commercial banks can expand credit through fractional-reserve banking, but credit is not money. Credit is just access to someone else's money. If I offered you a $100k check as a gift, you'd be pretty excited. If I offered you this same $100k as a loan, you wouldn't be. Money and credit are very different beasts, so don't make the mistake of assuming credit contraction automatically means general deflation.

The place to look for coming inflation, the fire that is going to produce the smoke, is in the Fed's own money-supply data. I'll start with a broad measure of the US money supply, money of zero maturity. MZM is a liquid monetary measure that includes all currency, checking accounts, savings accounts, and money-market accounts redeemable on demand. It does not include CDs and other time deposits.

This first chart graphs the raw MZM data in yellow along with the absolute annual growth rate of MZM in blue. For reference, the year-over-year growth rate in the Consumer Price Index is also included. While the CPI is horribly flawed for a variety of reasons, it remains the most widely accepted measure of inflation today. But it ignores the cause, monetary growth, and tries to filter out effects, rising prices.

The Fed, or any central bank running a fiat currency not backed by gold, really only has one single power. It can inflate. Inflation, growing the money supply, is the Fed's response to everything. Sometimes it inflates more, sometimes less, but it is almost always inflating. It is very rare to see money supplies contract, and even in these isolated cases it is only for a trivial amount over a very short period of time.

Back in the mid-2000s, MZM growth was stable near CPI growth. In 2004 and 2005, YoY MZM growth averaged 3.1% while YoY CPI growth averaged 3.0%. Also, note above that prior to mid-2006 the CPI direction generally mirrored that of MZM growth. If MZM growth rates were increasing, so were the CPI's. And vice versa. But in 2006, a couple major events sowed the seeds for the massive MZM/CPI disconnect we are seeing today.

In early 2006, Ben Bernanke took over the helm of the Fed. An academic, he had a long record of being pro-inflation. He believes the Great Depression happened because there wasn't enough inflation, so if he was ever thrust into a crisis he would ramp the money supplies rapidly to try and avert it. Late in 2006, the CPI's calculation methodology was changed. Rising prices would be more aggressively edited out of this index so "inflation" would remain at politically-acceptable levels for Washington.

Bernanke's mettle was soon tested with the subprime mortgage crisis in early 2007, the general credit crunch in late 2007, and the global stock selloff in early 2008. The Fed's response was typical, it did the only thing it could do. It rapidly increased the rates of monetary growth. Stable at 4% when Bernanke took office, absolute annual MZM growth soon ballooned to 8%, 12%, even 16% in early 2008! The Fed was flooding the system with new fiat dollars.

Thanks to the CPI's methodology change, this surge in money was not being reflected in this index. Yet choosing not to measure something properly does not mean it doesn't exist. The surging MZM growth was readily apparent in commodities prices. The basic raw materials are the first prices to be driven higher by more money bidding on them, it takes time for these prices to flow through to the finished goods the CPI measures. Of course commodities surged mightily in early 2008, partially as a result of this inflation.

Even though the Fed tried to rein in the MZM explosion of late 2007, it was soon confronted with the stock panic. So it responded the only way it knows how to this new crisis, again it flooded the system with more dollars created out of thin air. And as you can see above in the yellow line, even though the stock panic is long over the Fed hasn't even attempted to withdraw any of this inflation. MZM remains near record highs!

Since the beginning of 2008, absolute annual MZM growth on a weekly basis has averaged 12.9%! This is a staggering expansion rate. Remember the old Rule of 72 from college finance? At this 13% compounded growth rate something will double in 5.6 years or so. Indeed since Bernanke took over, MZM has ballooned by 40%. This incredible deluge of money has to go somewhere.

Theoretically, if money-supply growth didn't exceed underlying economic growth there wouldn't be any inflation. This is why the gold standard is such a brilliant solution to money. The natural mining rate of gold almost never exceeds the natural growth rate in the global economy. But of course the US economy hasn't even come close to growing 40% since early 2006 when Bernanke came to power or at a 13% rate since early 2008.

In fact, per the US government's own GDP data, since early 2006 the US economy has only grown 11.0%, a far cry from the 40.4% the Fed has grown MZM over this span. And since early 2008, GDP is actually dead flat at 0.4% while MZM money has soared 16.8%. In both cases the excesses are pure inflation, new dollars created out of thin air that are now chasing a relatively smaller pool of things. Higher general prices are the inevitable result.

And boy, if you exist you know this! Over the past several years, have your costs of living risen or fallen? Is your food at grocery stores and restaurants getting cheaper or more expensive? Are your utilities bills and insurance costs rising or falling? Do you feel like you have more disposable income after necessary expenses or less? We all see this relentless and very real inflation no matter what the government statisticians try to tell us. The nominal cost for existence just keeps rising and rising thanks to the Fed.

Now if MZM has averaged 13% annual growth since early 2008, then why has the CPI gone negative? There are a couple reasons. First, the CPI is designed to intentionally lowball inflation. Its custodians filter out rising prices and overweight the rare falling ones, like computers. Washington wants a low CPI read because it reduces non-discretionary government expenditures on welfare programs indexed to the CPI. This gives politicians more money for their pet projects. Wall Street wants a low CPI read because high inflation is bad for the stock markets.

But the primary reason the CPI plummeted was due to the stock panic. If you don't remember how scared people were in late November and early December, go back and read the big newspapers from then at your local library. Thanks to sensationalist mainstream-media coverage, average Americans really believed a new depression was upon them. I've reported tons of hard stats on this in our subscription newsletters since the panic. Americans radically reduced spending, hoarding cash for the worst case.

Remember that the prices of everything are a function of supply and demand. As demand for goods plunged, desperate retailers cut prices to spur sales and clean out inventories. It was this dynamic, a plunge in consumer demand, that drove the falling consumer prices the government emphasized. General prices did not decline because money shrunk. There never was any deflation despite the CPI!

If the raw money-supply data isn't enough for you, consider the Continuous Commodity Index. The CCI is an equally-weighted geometrically-averaged basket of 17 key commodities. It bottomed in early December as the stock panic ended. Since then, it has surged 31.3% higher. Now there is no way global commodities demand grew by a third in just 6 months. The rise since the panic was driven by a combination of investment demand as well as more dollars bidding on commodities, inflation.

If I ended this essay here, investors would have plenty of reasons to deploy capital in investments like commodities that thrive in inflationary times. Our subscribers have already earned big gains in this sector since the panic. But amazingly, this high sustained MZM growth is minor compared to the primary inflation threat. Even though it is going to drive huge gains in my investments, this next chart really frightens me.

The narrowest measure of money supply is known as the monetary base, or M0 (zero). M0 is simply currency (paper dollars and coins) in circulation, currency in bank vaults, and reserves commercial banks have on deposit with the Fed. M0 is critical because it is the base of all money we use for daily transactions. It is also the base from which fractional-reserve banking multiplies. M0 growth has the most direct impact on inflation of all. Its raw numbers are shown in red and its year-over-year growth rates in blue.

For 48 years prior to the stock panic, absolute annual M0 growth averaged 6.0%. And this was within a tight range that seldom exceeded 10%, and even then only for short spells. Why? The Fed, at least before Bernanke, knew that excessive growth in the monetary base would rapidly lead to price inflation. Growing M0 too fast is playing with fire, very dangerous.

------------------- continued in comments section ------------------

 

20 Comments – Post Your Own

#1) On June 09, 2009 at 9:32 PM, binv271828 (< 20) wrote:

The only notable event in M0 in a half century was the pre-Y2k ramp, a brief period of 15.8% growth ahead of the date rollover and all its big unknowns. Yet Greenspan realized how dangerous this was, even for a crisis, so within a year M0 was actually shrinking a bit as he tried to soak up all that excess pre-Y2k liquidity. Interestingly, some economists believe this Y2k M0 ramp helped drive the vertical final few months of the tech-stock bubble and that the subsequent rapid slowing in M0 growth accelerated its bust.

M0 growth was trending lower in 2008, averaging 1.2% in its first half. This is one of the main reasons inflationary expectations were fairly low prior to the stock panic despite the record commodities prices last summer. But then the stock panic erupted and the Fed panicked, getting swept away in the fear. Bernanke decided to inflate far faster than has ever been witnessed in the Fed's entire history since 1913.

In October, the scariest month of the panic when the S&P 500 plummeted 27% in less than 4 weeks, the Fed suddenly expanded the monetary base by $224b. This was a 25% surge in a single month, just insane. And it led M0 to rocket to its highest YoY growth rate ever by far, up 36.7%! But the Fed was just getting started in its unprecedented inflationary campaign.

In November it grew M0 by another 27% over the prior month, yielding 73.0% YoY growth. In December it again grew M0 by 15% MoM leading to a mind-boggling 98.9% YoY gain. In 4 short months, the Fed had literally doubled the US monetary base! Something like this has never even come close to happening before, so we are deep into uncharted inflation territory here.

By late December this information slowly started to leak out and contrarians who have studied monetary history were appalled. Was the Fed mad? Bernanke responded to these growing criticisms in Congressional testimonies, promising that the Fed would remove its "accommodation" (a euphemism for inflation) as soon as possible. Even though the Fed has never shrunk the money supply noticeably, Wall Street curiously took Bernanke at his word.

So every month since the panic ended in mid-December, when the VXO fear gauge fell back out of panic territory, I've been watching M0. In 3 of the 4 months since (May data isn't out yet), the Fed has actually grown M0 further! In January, February, March, and April, the absolute annual M0 growth rates weighed in at 106.0%, 88.5%, 97.9%, and 111.0%! And in April alone M0 surged to a new all-time record high. And by late April the stock markets had already rallied 29%, yet the Fed was still rapidly growing M0.

Friends, this data is flabbergasting! How can the monetary base double in 4 months, and stay doubled for almost 6 now, and have no impact on real prices? The monetary base is our transactional cash we use to buy everything. Even checking accounts are directly tied to it, although the mechanism is beyond the scope of this essay. The Fed has not only failed to start contracting M0 post-panic, but it is still growing it.

Nothing like this has ever happened before, not even in the 1970s during the last inflation scare. So the inflationary impact of a doubling of narrow money in 4 months will certainly be serious. Exacerbating this effect, as consumer spending recovers and bids on now-depleted inventories of consumer goods, prices will also be rising for pure supply-and-demand reasons. This will be perceived as inflation by most people, so we're probably facing a perfect storm of inflation.

As inflation really takes root in a way everyone can easily see, inflationary expectations will soar and investors will seek assets that thrive in inflationary times. Of course this means commodities, primarily gold and silver. At Zeal we've been deploying in ahead of this trend since the end of the panic. Our trading results have already been awesome, but we haven't seen anything yet compared to what will happen to our trades once inflationary expectations start scaring mainstream investors.

In our latest Zeal Intelligence monthly newsletter at the end of May, our 12 open stock trades had average unrealized gains of 37%. Our 4 new long-term investments added in November near the panic lows had average unrealized gains of 103%. Our 17 open stock trades in our Zeal Speculator weekly alert service had average unrealized gains of 53% as of the latest issue on June 2nd. All these trades are elite commodities stocks that will thrive in inflationary times. And thanks to the Fed, big inflation is coming.

Unfortunately most mainstream investors are still sitting on the sidelines in cash, too wounded from the panic to even think about stocks again. But this ostrich approach will prove disastrous. The kinds of inflation this M0 ramp portends will steamroll cash, rapidly eroding its purchasing power. As mainstreamers realize this, the capital that will flood into commodities and their producers' stocks should be breathtaking. Subscribe today to get in the game and ride this unprecedented event higher with us!

The bottom line is the panic money-supply growth in the US has been very excessive, running at multiples of economic growth. And in the case of narrow M0 money, the doubling in 4 months is literally unprecedented. It scares me. With so much new money in the system, and the Fed totally unwilling to undo this terrible inflation over the 6 months since, rapidly rising prices are inevitable.

We're on the verge of the first inflation scare of the modern era, a time when epic panic buying into hard assets and their producers is increasingly likely. Investors who ignore these dire tidings will probably get crushed by the inflation. But investors who prudently study the dangers and deploy their capital to thrive in them will make fortunes. Mark my words, the money-supply data shows big inflation is coming.

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#2) On June 09, 2009 at 10:32 PM, Tastylunch (29.89) wrote:

dude so is this profile your hghlight other cool stories blog and the Binve profile your original work/research blog?

 It's amazing the rec disparity between the two. :)

re: inflation I still think food/farmland is the safest way to play it. Plus I think both hold up realtively well during deflation as well. I'm with jim Rogers on that.

The big boys mess with Gold too much for my liking (stupid Govermnet Sachs "dark pools") and the ETFS are just killing the juniors (taking all the hot money away) which I always liked to play :(

btw wouldn't that be something if it came out the GLD really didn'thave as much Gold as they say they do. I really wonder where the heck they are actually "buying" as much gold as they claim to be,

I will say i see little to no inflation in my inventory repurchase prices yet. It's actually far far less than we had in 2005-7 in terms of price increases. If Inflation is coming it's not here yet.

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#3) On June 09, 2009 at 11:24 PM, 100ozRound (30.45) wrote:

Thanks for this!

+1 rec

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#4) On June 10, 2009 at 9:14 AM, binv271828 (< 20) wrote:

Tastylunch.

LOL! I guess its turning out that way. I don't know if you ever read my first post in my binve portfolio: I never met an ‘e’ I didn’t like. But there I lay out the basic premise, which is to use binve for TA and short term position trading. But I still use binv271828 as a benchmark for my long term investment thesis. You can see I still maintain it (I like using it as a benchmark so nearly all of the picks have been open for more than one year, but I add or close a pick at a rate of about 1 a month to keep it active). As far as the posts go, I continute to be fundamentally engaged in commodities and gold, and I still believe that inflation is the long term problem to be dealt with. So I still read a post articles along those lines. I find that other analysts (especially Steve Saville) articulate the thoughts that I have more completely than I do. So when I find something that resonates I repost it. I usually try to add a little bit of my own take at the beginning of each post.

Yeah, the rec disparity is pretty funny :)

I am with you. I am a big fan of all commodities, and I think agriculture is an important one. I agree.

I also agree, gold is very manipulated. But it is being manipulated during one of the worst economic crises and more importantly one of the worst currency confidence crises of all times. This is probably the worst time in the history of humanity to be short gold or silver. I think this strategy will blow up in GS faces.

As far as GLD, yep. They are not well audited and Sinch has a few good articles where their audits "double-book" contracts. They do not have the gold that they say they do. Which is why CEF continues to be my biggest holding.

As far as inflation. I agree, it has not made its way into prices. yet. But that was really the point of this whole article. The "deflation" that we saw the last few months was due to supply and demand (much of it fear-based), not because of monetary contraction.

I know that I am strirring up and argument here, but bear with me for a sec. People like Mish and Mauldin will argue that the collapse of the credit market last year constitue deflation. I very much disagree. During the last several months I have been thinking about that a lot (hence the Mauldin posts that I was making a few months ago). I could see their arguments, but I have ultimately concluded that they are wrong.

Here is why in a nutshell.

The argument goes that banks and other financial institutions bid up the market for all of these derivative instruments (CDS, CDO, etc.) And they banks could loan all of this money into existence (as part of the Federal Banking System). So they fact that the market was frozen and the credit that these markets represented was halted is a deflationary phenomenon.

I say it is not, and here is the simplest example I can give.

Lets say that instead of CDS, all of these banks bought dynamite. And instead of in July last year when the credit market stopped, they simply blew up the dynamite. Is this deflationary?

The answer should be an obvious (at least to me) no.

It is how we are defining money. And I think it is being poorly defined by many of these anlaysts. While M1, M2, and M3 are important quantities, they do not (IMO) measure money. Money, it very simplest definition, is that is is a medium of exchange. CDSs are not a medium of exchange during a frozen market, neither are houses, any more than the dynamite is in my above example. The fact that the banks loaned all this money into existence for the sole purpose of bidding up CDS prices and trading them with other banks who were doing the exact same thing is not inflationary, and nor is the freezing of that market deflationary.

The measure of money is better described by M0 or MZM. The best definition is from Mises.org, True Money Supply: http://mises.org/content/nofed/chart.aspx?series=TMS. Steve Saville uses TMS a lot in his analysis to draw inflationary conclusions: Steve Saville: Market Value, Money and Credit and Steve Saville: Money Confusion and Inflation/Deflation. And I think this is some of the best writing on the matter (IMO).

As far as timing of monetary inflation (which is happening BIG TIME, just look at the graphs above in this post), there is a lag between monetary inflation and price inflation. Saville talks about in these posts (actullaly he talk about it here too: Steve Saville: Why We are Gold Bulls). So I agree that price inflation is not here yet, I do like it is an inevitable outcome of the recent Fed policies and actions.

Sorry for the ramble, man. And as always, this is just my opinion :)

100ozRound. Thanks!.

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#5) On June 10, 2009 at 9:54 AM, ttboydxb (30.14) wrote:

binve,

 

Awesome post.  Thanks so much for taking the time to put it here for us!

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#6) On June 10, 2009 at 11:32 AM, outoffocus (24.44) wrote:

The only true beneficiaries of these inflationary policies are debt holders.... 

Good blog but I still have to disagree with this statement.  Unless you have real assets that are increasing along with rise in inflation, holding debt will actually be detrimental in this economic environment because:

1.  The value of your saving are decreasing due to dollar devaluation.

2. Wages are not going to increase at the same rate of inflation (if at all).

Most debtholders are not a the position to hold real assets.  So high inflation will actually make their situation worse. If you are unemployed or underemployed, in debt, and prices go up, ruh roh!

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#7) On June 10, 2009 at 11:41 AM, binve (< 20) wrote:

outoffocus, :) Yes of course. Traditonal debt holders (such as Americans with a mortgage) are screwed by inflation based on your observations.

I was meaning debt holders as in "the US government" (foreign debt held by China, Japan, etc.). The act of inflating the money supply and giving those newly created dollars to the Treasury allows them to service that debt more easily. (Becuase the size of the debt does not inflate with more dollars).

Because I agree that wage inflation for US citizens will not increase commensurately with price inflation. So I am in 100% agreement with you :) .

So my revised statement is:

The only true beneficiaries of these inflationary policies are debt holders that can create their own Money (i.e. the Fed and Treasury, the ECB, etc.) and holders of real assets, namely commodities and gold.

Thanks!.

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#8) On June 10, 2009 at 11:44 AM, binve (< 20) wrote:

ttboydxb, Thanks!

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#9) On June 10, 2009 at 1:43 PM, buildgreen (< 20) wrote:

Ok.. i understand when you break out the money supply that it appears that real money supply is drastically increasing.

My question to the community... Is there a graph that shows the difference between the money supply and the total debt?

It seems that if debt (which is converts to money for one party of the transaction) is on a smiliar reverse trend it should have a moderating effect. 

 

On a side note on my business.. I have actually seen price declines from my suppliers (construction materials). However many of them have moved to a highly active and ajustable pricing model. They explain it to be due to uncertainy. Price action seems unstable from my small end of the world...  inflation could kick in fast if there was cause for it. 

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#10) On June 10, 2009 at 3:43 PM, madcowmonkey (< 20) wrote:

This is why it is notoriously hard to measure inflation and why average folks have a tough time understanding it..

Just one of the statements I will agree with. It seems like there are about 40 different opinions on CAPS regarding the inflation/deflation and how it is defined.

As inflation really takes root in a way everyone can easily see, inflationary expectations will soar and investors will seek assets that thrive in inflationary times. Of course this means commodities, primarily gold and silver.

I always love the "Of course"  statement. So the "montetary" inflation says it is time to buy gold, silver, oil, and natural gas? Can I throw in a few tech stocks along the way?

GMO

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#11) On June 10, 2009 at 4:55 PM, binv271828 (< 20) wrote:

buildgreen.

Thanks for the comment!

On a side note on my business.. I have actually seen price declines from my suppliers (construction materials). However many of them have moved to a highly active and ajustable pricing model. They explain it to be due to uncertainy. Price action seems unstable from my small end of the world...  inflation could kick in fast if there was cause for it.

This is a perfect encapsulation of the observations above!. Price declines and highly adjustable pricing model? When did this take place, 8months to a year ago? This is probably a good illustration of prices dropping (so-called price "deflation") due to supply/demand which we very fear-based a year ago. Not because of a contraction in the money supply. And I agree with your inflation ramifications too. Thanks!

madcowmonkey, Exactly man. I stick by the statement: "Inflation is always and everywhere a monetarty phenomenon". But most people do not understand M0, MZM, M1, M2, M3 or TMS. People understand prices. And I believe the Fed intentionally obfuscates the issue by tying "inflation" mesurements to the CPI and PPI. That way people never see the causes, they only see the effects.

LOL! Yeah. It really bothers me when anlaysts use statements like "of course", as if it is a foregone conclusion, or even a fact.

And its not, it is just the anlaysts opinion.

That is why I wrote my rant in the last 2 large binve blogs posts. People need to read any analysts writings as opinions, and nothing more.

"Anybody who says they know what will happen is delusional, a paid liar, or both".

I am always looking for a diversity of opinions, because nobody will get it 100% right (especially me).

As for me, yeah, I am still in the buy gold on every dip camp, with my long term investment money. CEF is still my biggest holding. Take care man!.

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#12) On June 10, 2009 at 5:19 PM, dividendhound (< 20) wrote:

What agricultural stocks do you like at current prices - how about DBA (not really a stock, but still)?

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#13) On June 10, 2009 at 8:31 PM, SirCharms (< 20) wrote:

I guess I'm going to be the lone voice of opposition:

If a bank buys dynamite and later blows it up isn't that necessarily deflationary when valued in sticks of dynamite? (When valued in dollars it's inflationary because all else equal, sticks of dynamite now cost a little more). They're worth more now because there are fewer of them in circulation. The thing with credit is that credit and money are interchangeable in our economy - generally speaking, everything you can buy with cash you can buy on credit. So if credit and money represent essentially the same store of value and you start destroying either, it's deflationary for your money supply.

This rally and the crash preceeding it are directly connected to inflation/deflation pressures which is tied both to credit availability and base money - it's also technical, so don't get me wrong on that. I think it would be tough for the inflationists to claim that housing prices are going to start rising especially with interest rates where they are now....and houses are priced almost ENTIRELY in credit.

I've had my mind changed by persuasive CAPS members before and I have to admit that I spent a long time pondering the dynamite question.

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#14) On June 10, 2009 at 9:17 PM, binv271828 (< 20) wrote:

Ragingsamosa, I am a big fan of Ag ETF (spreads the risk around), Ag stocks are very volatile and subject to very specific supply/demand constraints best left to experts studying the sector. DBA is my favorite, and MOO is pretty good. I love the compostion of RJA but I hate the fact that its an ETN.

SirCharms.

Don't think twice! Opposition is a good thing!. We only learn by discussion.

I like your analogy and I don't disagree on principle. Because here is the key to this whole argument: what constitutes monetary inflation is not a strict rule.

I talk about it above, as does the author, like it is a strict definition. But I have thought about this issue for a long time and do not like that. Let me explain:

While I believe like Mises and Steve Saville that TMS is the best measure of "money", there are monetary components in all. M0 or MZM is very strict accouting. M1 is a little looser, and M3 is much looser. And it is true that what most of M3 covers is not strictly money (much of the debt covered by the measurement is not strictly monetary) some of this debt does in fact have monetary utility.

It is a question of degrees, not absolutes. But most importantly, it is a question of what is fungible.

The reason why houses is worth say $350,000 is becuase if you put it up for auction on Ebay, the winning bid will be $350,000. That's it. This is why using highly illiquid assets as a proxy for "money" is erroneous.

The same things happens with CDSs. The finanical instiutions builts an unregulated, off-the-books market for bidding up and trading these instruments, to other financial instutions, from money loaned into existence. But since there was no "true" market, does it make this loaned money fungible? Again, I would argue that it does not.

Same thing with my dynamite example. You can bid up an artifical market for anything (tulips for example), but becauase there is a short term mania, it does not mean it is truly fungible.

Money is kept in liquid assets that act as a medium for exchange, be it actual cash, t-bills, gold, liquid commodites, etc.

This is precisely why the housing market, or the supply of Snickers is not considered part of the "money supply", even though all of these assets were funded/purchased by "money".

I do like your dynamite analogy above, but I would argue that a "bubble" in dynamite does not make an truly inflationary phenomenon. Nor does blowing it created deflation. Because the bid up of dyanmite prices is price inflation, despite where the money comes from. Maybe somebody sells bananas to buy dynamite. So do we have a concurrent deflation in bananas and an inflation in dynamite? Again, I say no, because none of these are monetary phenomena. They are speculative (read price-based phenomena).

I will admit, that there are a few gaping holes in this argument. However, I stand by this statement:

It is a question of degrees, not absolutes. But most importantly, it is a question of what is fungible..

Seriously, Thanks for the comments!.

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#15) On June 10, 2009 at 11:58 PM, Tastylunch (29.89) wrote:

binv271828

not sure I follow the dynamite example. Afterall to my knowledge you can't buy dynamite on leverage

 With CDS you obviously can , ridiculous leverage in fact, so the profits generated by to expand a loanable capital base was huge.

Forgive my stupidity if I'm missing something here but it seems to CDS blowups is deflationary no matter how you cut it since the banks factored it into what they could afford to lend...

I still think the inflation/deflation debate will be detremined by borrowers and money velocity not just money supply. If the money doesn't circulate (either due to banks refusing to lend it or borrowers refusing to take it both of which are happening now) I'm not surehow you get meaningful asset inflation.

Unless you know Uncle Sam goes Zimbabwe and gvies every gov't 9-5er a pay increase...

I dunno I'm just not seeing inflation in action yet. If anything the rate increases for borrowers d1david mentions  seem to be defaltionary pressure. It seems very inconclusive to me I can see both arguments but in the day job it's definitely price deflation so far...

feel free to tear my thoughts to shreds how you please, I know I'm no banking expert :)

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#16) On June 11, 2009 at 1:02 AM, binv271828 (< 20) wrote:

Tastylunch. LOL! No man, there will be no shredding on this blog :) And I am far from a banking expert myself. :)

Actually there is much more in common about this statement than you might think:

not sure I follow the dynamite example. Afterall to my knowledge you can't buy dynamite on leverage

 With CDS you obviously can , ridiculous leverage in fact, so the profits generated by to expand a loanable capital base was huge.

. If there was a black market for dynamite where you could by it on leverage with money that you loan into existence, then you would have the CDS market.

Because this market was created out of esentially nothing. Several financial instituions with mortgage backing arms made this "market" (which actually is not a market), to trade mortgage pools and other CDOs with other financial instiutions doing the exact same thing.

This was never a real market. Quadrillions in derivatives? It is the orange on a life raft analogy. If there are 3 people on a life raft and I have an orange, and one guy offers me 1 buck for it, it is worth 1 buck if I decide to sell it. But lets say at the last minute, the other guy finds a 10 dollar bill he stashed away, now the orange is worth 10 bucks.

In a limited market without other buyers and sellers (no other supply of oranges, we are just on a life raft) then valuations have little meaning.

Same with the CDS. The financial instutions are on the safe life raft bidding and selling the same crappy mortgage slices to eachother. But was there every a true market for it? Could Joe Schmoe bid on it? No, these instruments are highly illiquid and have very little ability to be turned back into money.

but it seems to CDS blowups is deflationary no matter how you cut it since the banks factored it into what they could afford to lend...

I don't think this is a true statement from a monetary deflation argument standpoint.

If I buy a house on credit, has my net worth actually increased? Lets take it a step further, lets say I had $300,000 in cash, and I bought a house, does the house rising in price constitute inflation? Does the value dropping constitue deflation?

Take the same example, but instead of you, it is JPM, and instead of a house it is a CDS that represents 10,000 mortgages. It is the same principle on a biggers scale.

It is like my example above, once a highly illiquid asset is purchased, it is no longer a proxy for money.

That is the trick when talking about inflation and deflation. Here is another example:

Lets say MS was really smart and sold all of the CDS back into cash and then bought, I don't know, a strip mall (bad example). I would argue that this is not inflationary, it is just a transfer between two illiquid assets. Even though that money was loaned into existence and these assets still have "value" and they are reported on bank balance sheets in that fashion.

So my penny-ante summary is this: Inflation is not the money loaned into existence to buy whatever (CDSs, Oil, Gold, Snickers, Bananas, or dynamite) causing those prices to rise, Inflation is the ability (the increase in monetary potential energy, to use a physics term) to cause those price increases, or the transfer "money" among asset classes. It is an increase in the "medium of exchange".

My argument in all of my comments above, that all of the Derviatives are not a valid medium of exchange. They have to easily liquid or fungible value, beyond a very tight market subject to highly variable conditions. This is the same exact reason why houses, cars, etc. cannot be used as a proxy for money. Whether the money used to purchase these assets to begin with was loaned into existence I think is irrelevant. Once the cost is sunk, it is sunk. That money no longer has the "ability" to inflate prices.

This is why looking at the monetary base, and in particular the TMS is the best proxy of the "ability" to create price inflation. M3 is not, because much of the debt that M3 represents is sunk into illiquid assets.

This is why I use the term "deflation scare". Because values were falling because of supply/demand dynamics, much of it fear based. Not becuase the money supply was actually contracting.

This is also why I think the outcome will be inflationary, because the "monetary potential energy" has been shoved into a feeder reactor and it is growing exponentially. And I don't think it will be contained.

Consider the bond market. Bond prices are taking and interest rates are rising sharply right now. Based on the market dynamics, all investors are being encoraged to take risks to make a return that will outpace the inflationary signal that these rising rates are broadcasting. This is a sefl-fufilling prophecy. Fed as drastically increased the TMS the last 2 years, and the market message (through bond rates) are telling big investors / banks / etc. to access that potential energy and to turn it into kinetic energy (rising asset prices, especially of real/hard assets). This is the only way to outpace the debilitating effects of the dollar devaluation (which created all the monetary potential energy to begin with).

I still think the inflation/deflation debate will be detremined by borrowers and money velocity not just money supply. If the money doesn't circulate (either due to banks refusing to lend it or borrowers refusing to take it both of which are happening now) I'm not surehow you get meaningful asset inflation.

This is why I think it is in the process of happening. Because all of the private sector debt that was locked up in these illiquid assets are being moved to the public sectors balance sheets (the Treasury and the Fed). This is an unprecedented transfer of debt obligations, and the magnitude is absolutely unprecedented. With bond rates rising, I think many finanical instiutions will be accessing the energy represent by the TMS to try to outpace the inflation signals the bond market is sending. Which means this eventually moves its way into assets prices (this is the lag between monetary inflation and asset inflation that Saville talks about). I think this process has already begun, and we haven't seen it yet because the consumer is the last to know. 

So as a purchaser of goods from vendors for your store, I think you will see it before the rest of us consumers do. I really hope you keep me and the rest of Caps informed when you start to see these trends escalate. You are the early warning system man :)

But I agree, asset price inflation is not here yet. Saville thinks it will be about 2 years from now before we start seeing asset inflation, based on his study of the lags between TMS growth and price growth from past cycles. Based on the bond market signals, I honestly think it could be sooner. Who knows for sure though..

So just to reiterate, this is just my take and my opinion. There was to tearing to shreds :) Just a very respectful rebuttal and discussion.

Man, I hope you get something out of my rambling, because you always ask questions that make me think. Thanks my man!.

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#17) On June 12, 2009 at 12:46 AM, Tastylunch (29.89) wrote:

hmmm thanks Binv

 I'll have to think about this. Not sure I'm coming to the same conclusion you are, but I want to think it through before speculating any further.

Be curious to know what Anchak thinks about this being the financially savvy guy he is..

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#18) On June 12, 2009 at 1:13 AM, StopLaughing (< 20) wrote:

Note: I understand the difference between price rises (lack of supply) and "inflation" as defined by money theory. However, my bank account does not.

It is clear at this point that we will not be able to continue to trade additional IOUs (T-Bills-T-Bonds) to foreigners for goods forever.

We will have to balance the trade deficit current account by becoming oil independent or switch to another energy source for transportation. Or we will have to reverse the development of China (our enemy) and rebuild some manufacturing base. 

It is highly likely that inflation and interest rates will go up. It is very difficult to switch energy bases and reversing industrial losses is highly improbable. 

However, there is one quick fix that may stop the inflationary spiral. If the government were to ask the American people to engage in a WW2 type "War Bonds" buying program, that might provide the debt that is needed to offset the selling by the Russians, eventually the Chinese and others. 

If American citizens owned the debt the government would be very afraid to burn them by inflation, higher interest rates or default. Voters would throw the bums out. 

Further, there would no need to save SS if the SS taxes went directly to buy T-Bills of up to 5 years duration. SS would be solvent and the payments would be just as secure. However, Congress would have to stop playing games by borrowing the SS money. What a Ponze scheme. 

According to one aspect of Keysian theory the "debt does not matter" if it is owed to your own citizens. However, that is only one thread of thought. 

This approach of Americanizing the debt might bail out the US long enough to get things under control. It would also raise the savings rate which is good in the longer run. 

The faster this country gets rid of the big government spendthrifts in Washington the sounder this economy will get. It is okay to pump prime in a deep recession, it is another to dramatically increase the debt and size of government during a near depression.

Pros and Cons about Americanizing the debt are welcome. 

 

 

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#19) On June 12, 2009 at 3:28 AM, buildgreen (< 20) wrote:

I watched date line with warren buffett the other night. He said something that still sticks in my head.. He said we are in a War.. were not experienced with this type but to have no doubt we are in an economic War .. our war is to keep the system from collapsing (side note he said he was amazed at how well it is going and feels the best of us is in front of us(very bullish guy, great attitude)

 

So with that thought i like the idea of getting some good old fashioned buy in from the american citizenery. I would like to feel that I am doing my part to win this war and if positioned in such a way I think we could get wonderful patriotic upswing from the people.

 

 

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#20) On August 18, 2009 at 5:17 PM, CrackerHockey (< 20) wrote:

Balderdash, thers is no money.  Ask the millions out of work and the soon to be many millions more. The more go out of work, the more deflationary!  Read your history. We sill see wooden nickels again!!

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