QE236: Engineering Higher Inflation

First, what happened in the markets yesterday? Nothing. Mr. Market is playing it cool. Still not revealing his intentions…

In the meantime, everybody is watching inflation. At least, they’re trying to watch inflation. Some people think they see it. Others don’t see anything at all.

“Look, if you monitored consumer prices the way they used to,” said colleague Chris Mayer yesterday, “you’d have an inflation reading of about 8%. But now, they’ve twisted the figures so much, they show no inflation when everyone knows prices are going up.”

Prices are soaring – for many things. Tuition, for example. Our youngest son, Edward, is going to college next year. We’re looking at colleges and universities. The price tags give us sticker shock.

A lot of other things are going up too – such as food. And gasoline.

The feds take out food and energy from the core inflation reading. They say the two are too “volatile” to give you a reliable measure of inflation.

And they fiddle with housing prices too. They assume everyone pays rent. So they calculate what the rent should be as a part of the cost of living. Of course, housing has just lost 20% to 30% of its value. So, in theory, rents are relatively low – even though people are not actually paying them. They’re still paying the mortgages they signed in the bubble years.

But if you took out the largely fictitious rent payments you’d have a CPI figure about where you want it, says old friend John Mauldin.

But the official line is that there ain’t no consumer price inflation in the United States of America. That’s what the nerds at the Bureau of Labor Statistics say. And they’re sticking with their story. Officially, CPI growth has never been lower.

The New York Times has the story.

Since the collapse of the housing market in the United States and the beginning of the global financial crisis , the Federal Reserve has made avoiding deflation a major priority, recalling the experience of Japan after its bubble burst in the early 1990s. The Fed has set an annual inflation target of 2 percent or a little lower, but is not getting it.

The latest figures, released this week, showed that overall inflation in consumer prices was 1.2 percent in the 12 months through October, while the core inflation rate – excluding food and energy – rose just 0.6 percent. The previous low for that index, of 0.7 percent, came in the 12 months through February 1961, when the economy was in recession.

..the core inflation figures are charting a path roughly similar to one shown in Japan 15 years earlier. That has been true despite a much stronger reaction by the American central bank, which was determined not to make the same mistakes the Japanese made.

Deflation is feared for several reasons. If consumers come to expect it, as happened in Japan, there is a strong incentive to delay purchases while waiting for a lower price. That can restrain economic activity and increase unemployment. In addition, deflation places downward pressure on asset prices, worsening the situation of those who are indebted.

“To change inflation expectations permanently,” wrote Mr. Batty of Standard Life, “a much larger monetary response would be needed from the US and Western authorities than that already announced. In summary, if central bankers decide that higher inflation must be engineered, then investors should anticipate another phase of extraordinary policy measures through QE3.”

Hey! Why not? QE15…QE16…QE17…

What a great show!

And more thoughts…

Let’s back up and see if we can see the big picture. The private sector went too deep into debt. In 2007, it dug in its heels on the edge of the cliff…

And as it was stepping backward…the public sector flew by…on its way to glory or Hell.

Ireland took a big leap when it practically nationalized all its banks. Trouble was, the banks owed a lot of money – more than the Irish government can cover.

So what happens next? Well, Ireland seems to have fallen off the cliff. It’s hoping to get a parachute from the IMF and EU. But nothing is certain…

..except that there are a lot of other European countries that aren’t in much better shape. Like climbers on a rock face, they’re roped together with Ireland…all hoping that a bailout will break the fall before they get pulled down too.

Over in North America, meanwhile, the feds took on the liabilities of the housing market when they took Fannie and Freddie into protective custody. The losses on those two alone are said to be headed to about $350 billion.

And then there are all the state and local governments that will need a handout…

..and 42 million people on food stamps…

..and a federal budget financing “gap” as big as the Grand Canyon.

And Ben Bernanke, who says he is an expert at these things, believes that if he could just get the country growing again…everything would work itself out.

How do you get it growing? Add more debt!

Well, that’s what QE really is. The feds print up more money. The dollars are claims against resources – just like other debt. The QE program is meant to cheapen the value of all debt (that is, by lowering the value of the currency in which it is calibrated). And that’s why everyone has his eye on inflation. If the value of the debt (and the dollar) doesn’t go down, the program is a big failure.

And then, what else can they do? They’ll have to try a more aggressive approach. QE3. And then QE4. And so on…

How much QE can the world take before the whole global economy rolls off a cliff? We don’t know. But we’re delighted to be able to find out.

*** One of the nice and dreadful things about living in the Washington DC area is that we get to associate with powerful people. It is nice because they are generally smart and cultivated dinner companions. It is dreadful because they talk their book…and they’re good talkers.

Ask an architect what is wrong with your house and he will say you need new plans drawn up. Ask a painter; he will tell you that you need a couple of coats of new color. Ask a demolition man and he’ll tell you to blow it up and start again.

Everybody talks his book.

On Saturday, we had dinner with a group of economists from the World Bank…and elsewhere. Naturally, they believe the world would be a better place if clever economists were given more authority over it.

“The trouble in Washington is that it has become gridlocked,” one remarked. “It can’t do anything. In some ways that is a good thing. There’s no telling what might happen when Congress is in session. But the Obama administration really has stitched itself up.

“It didn’t make any progress [at the recent G20 meeting] in getting countries to limit their current account imbalances. You’re going to have them competing with each other to see how much they can de-value their currencies. It’s going to be a big mess.

“They really need to get together and sort this out. This is not a healthy situation. I can see why Zoellick (World Bank chief) came out with that gold remark. Because gold doesn’t need any cooperation. Of course, that would be taking a big step backward.

“And just look what is happening in Europe. They’re talking about avoiding contagion. But they’re not going to be able to avoid it at all unless they get together soon and come up with a plan that protects them all.

“They need proper planning…on a global level.”


Bill Bonner,

for Markets and Money

Bill Bonner

Bill Bonner

Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries. A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities. Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally. With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance. Since 1999, Bill has been a daily contributor and the driving force behind Markets and Money.
Bill Bonner

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5 Comments on "QE236: Engineering Higher Inflation"

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The US will be fine….if they sell back Alaska..Amazing to see so much chaos in their economy and extremely interesting to see how (if how) it will be possible to recover. I still wonder whether the old saying applies, when America gets a cold, the rest of the world gets pneumonia. Maybe Australia has contracted the virus but its still incubating.. Or maybe we live in a magical fairy land where idiots can run the country and it does well regardles through luck.


Yeah that would be good if they did that plus they would get rid of that halfwit woman that wants to run the country who doesn’t know the difference between North Korea and South Korea.
For F sake and thats the talent the yanks have to choose from…

Ned S

Which will be a sticking point in any sale – Do we have to take the Palin family too? :)

Ned S

If I recall correctly, South Korea invented Hyundais didn’t they? – Like seriously, what could possibly be morally wrong about wanting to nuke the nation that did that?!?!?! :D :D :D


Comment by Ned S on 26 November 2010:

If I recall correctly, South Korea invented Hyundais didn’t they? – Like seriously, what could possibly be morally wrong about wanting to nuke the nation that did that?!?!?!

They have come along way.. They put a car together really well now. Hyundai and Daewoo heavy machinery are quite good too.

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