Inflation
I am a big believer that inflation is heavily underreported. I think that part of this is by excluding food and energy costs (which are the most important costs to people) and part of it is manipulation by people who want to advertise inflation as being in a certain state.
How much longer can the US government say that inflation is only a few percent, when food and energy costs are rising so much, and not have a big uproar from the people? Mortgage costs are also excluded, which has also misrepresented inflation recently.
I think that considering *real* inflation, the downward adjustment of home prices in non-adjusted dollars will appear to smooth out fairly soon now. But how long will it take for incomes to catch up?
How much longer can the US government say that inflation is only a few percent, when food and energy costs are rising so much, and not have a big uproar from the people? Mortgage costs are also excluded, which has also misrepresented inflation recently.
I think that considering *real* inflation, the downward adjustment of home prices in non-adjusted dollars will appear to smooth out fairly soon now. But how long will it take for incomes to catch up?
Comments
So Ben: Does this mean that you think that housing prices aren't that far from their bottom?
Before I answer, remember that I am not very well versed in economics, so I might mess up what terms I use for things.
What I was speculating was that the dollar amount prices of houses are not far from the bottom (maybe only 6 - 12 months) but that with the severe inflation that will come in the next few years, the inflation* adjusted prices of housing will continue to drop a lot.
* - inflation as it should be defined, not how the government defines it.
Mostly I am interested in thinking about the inflation thing some more and having some people educate me about it. I have some friends from Serbia who described the hyperinflation there, and while I don't think that we are in for that, I think that the increase in gas prices and food prices will cause some interesting effects.
This article summarizes the current situation nicely, IMHO.
Markets Haven't Yet Properly Digested the Bad News
...... Here is what basic economics suggests about where we are now.
We are waiting to see how an ongoing credit and housing crisis creates a national economic recession and how this recession reacts back on financial firms and distressed households. You should think in terms of feedback loops. Just like in the bubbly boom, there will be self re-enforcing cycles. The coming set of cycles will be vicious, as opposed to the virtuous cycles of yesteryear.
Where we had imported deflation from globalization, we will have inflation from rising global commodity prices and weak dollars. Where we had limited demands for wage increases and tax receipts the political wind will change and stressed households and governments are likely to want a larger share of the pie. Households spent the last 6 years borrowing - heavily against their rising house prices. This is running in reverse. They will need more money to pay-off past purchases. Some rebalancing will come as default and the rest as wage demands and lower consumption. Where we had asset prices rising much more rapidly than prices in general- inflation- we will have asset price increases lagging inflation. All of this will take place against an uncertain backdrop of stressed financial institutions and households. This will place significant structural pressure on the national economy. This will have local and global effects......
HAHAHA!!!
http://www.minyanville.com/articles/GS- ... ex/a/17804
Batten down the hatches. It's a perfect storm brewin'!
Moreover, every period of high inflation has also seen a drop in delinquencies since people's earnings were rising so fast that it was easy to pay off debt. Real estate prices are also a key indicator of inflationary tendencies. Real estate prices always rise dramatically in periods of significant inflation.
Instead, what we see happening today is a contraction in credit, a rush to the safety of T-bonds, and a collapse in real-estate prices. These are all very deflationary trends. The rise we are seeing in energy and commodities is just the tail end of the credit bubble, which will come crashing down as demand starts to decrease significantly (as credit contracts).
I think it's entirely possible, though perhaps not probably that we will have both pressures simultaneously. What do T-Bills do then?
If prices rise due to demand/scarcity - is it still considered inflation? I ask because it doesn't seem to be the case that we have a generalized increase in prices across the board as would be caused by monetary policy. Prices are going up on certain scarce goods, but are falling on the biggest asset class held by the average person - housing. Wages are definitely not being inflated. This does not seem to fit the picture I have of inflation from when I was a kid in the late 70's
My take is that demand for steel, oil, and other commodities, will come crashing down when global economies begin contracting. We already see demand for fuel dropping in the US (e.g. SUV sales and miles driven are plummeting while transit ridership is way up), and now in Asia (e.g. China increased gas prices 18%, and there were many articles about how Chinese consumers will have to reduce their driving).
Moreover, as a recession kicks in and demand for all manner of goods decreases, that puts less pressure on commodities. Fewer automobiles built will result in steel demand declines. Don't forget that many emerging markets are highly dependent on exports. If demand in the US and Europe slow down, China, India, Turkey, and many other nations will see waves of factory closures. Just look at how quickly Vietnam's economy has gone from being one of the wonders of the world to a basket case (their stock and real-estate markets have tanked).
Lastly, a certain portion of the price run-up in commodities has been the result of investors just trying to find the last appreciating asset class to park their money. This has contributed to the growth of the last bubble, which is getting ripe for the popping...
It's almost as if people are saying that the prices aren't going to go down to reflect incomes.
Why should houses increase at the rate of inflation? Is that some sort of mathematical law?
I'm under the belief that the inflation that we are seeing in food and energy will be a deflationary force when it comes to housing. People need to eat. If their income doesn't go up then there will be less money for other things...such as housing.
Where's the wage inflation?
Sorry...I just don't buy all the "housing will bottom out at $X after adjusting for inflation"...especially when most people scream that incomes don't keep up with inflation.
So...really...when I hear of "inflating our way out of this"...all they should do is have the price of food and gas double again from where it currently is and the prices of houses will be justified.
Makes no sense to me.
Maybe they should just make gas $100/gallon and McDonalds will have $99 Double Cheeseburgers. Then people won't even be able to afford rent and will look at all the empty houses and condos and dream of what it must be like to live in a multi-million dollar 400 sf studio condo.
I think it's an interesting question, and I don't hear many people asking it, probably because you have to get past inflation to deflation before you can even ask my question. If it happens though, it might make stagflation look nice.
I feel that there will be a substantially increased demand for energy for transportation but I think that there are far more people that are just concerned with putting food on the table rather than buying an automobile. It's that extreme disparity of income issue I guess.
I think that we have already seen actual deflation for some time now in many products such as cars. For example...look at what a 1994 BMW 328 cost at the time and look at the new 2008 1 series. The price is the same and that doesn't even factor in the devaluation of the $. It's also a better handling, safer, more powerful, faster, more luxurious car and the MPG is actually better when you consider that the ratings recently changed. If they bring the diesel here the mileage will smoke the 94 3 series at 58+ MPG. Shouldn't those be selling for more if inflation is factored in? I'd cringe to see what it would cost if we factored in the devaluation of the dollar and the "shadowstats" inflation over the last 14 years. Even the new 3 series aren't that much more expensive save the M3. I don't drive a BWW fwiw...I prefer to buy used cars that hold their value or appreciate.
It's the same with electronics, clothes, appliances and many other expenditures that people make. I don't pay much more for clothing as I did in the 80's and 90's. What else is there. Medication and healthcare has of course gone through the roof as has housing...even renting as far as I am concerned. Even at @ 40% PITI+HOA that I'm paying to rent downtown hardly feels like a "deal".
Food/Energy will continue to increase until there is heavy handed government intervention. Housing will continue to decrease likewise IMO.
just my 2c
Fact is, what is keeping those two commodities up is the boom. If the boom goes bust, so will they. And, of course, that will only exacerbate the problems that caused it to crash in the first place.
I'm familiar with this argument, but I'm not convinced (though I am open to it as a possibility). China is growing at more than 10% a year right now. Is it possible that with a US recession/depression the economic growth in China might slow to just 1%-4%? How about Europe and Japan, if we go into recession, might they maintain some small positive economic growth? If the answer to those questions is yes (and I believe it is), then a US economic collapse will not lower fuel prices.
I don't think we're going to stop with ethanol any time soon, not in this part of the election cycle.
China will pull back after the games, IMO. They're in a massive building spree right now and eager to prove to the world that they're a modern society with industrial and economic power.
I think the combination of the following three things will dramatically lower the demand for oil in China, and therefore dramatically lower the price:
1) End of building spree for the Olympic games.
2) Lowering of demand for China's goods in the US, and a bit in EU too.
3) Price hikes (or subsidy reductions) for oil by the Chinese government. I think they raised prices by about 15-20% just recently and although demand is relatively inelastic, this will introduce inflation in the price of their goods, make it more expensive to ship their goods, and we'll use even less.
I think (1) will provide a relatively immediate and obvious drop, but of minor proportions. Then (2) and (3) will become a self-reinforcing cycle until oil drops enough, and US consumers start buying again. It could take 6-12 months or more before drops become substantial enough to affect our precious gasoline prices - refiners are going to want to bring their margins back up first...
Just my 2 cents...
Emerging markets are notoriously volatile, and it would be naive to think that China is invulnerable to a signficant economic contraction. Look at how the USA developed in the 19th and 20th centuries. The economy kept growing over-all, but progress was punctuated by several severe depressions, and quite a few minor recessions. China is well overdo for a significant retrenchment. There is so much mal-investment and dead-wood in the Chinese economy (just look at the masses of non-performing loans at Chinese banks and factories that aren't turning a profit) that the only thing that will clean it out, and set the foundation for more growth, is a good economic pounding. There are signs of a massive bubble all over in China: share prices have risen to astronimical levels for state firms that don't have great profits (despite the recent corrections), and whole neighbourhoods of new appartments are sitting like ghost-towns since the unit owners are flippers who can't find people to buy them at the inflated prices they need to pay the mortgages. Property developers are already starting to drop like flies in China.
Also don't forget that at least a quarter of the Chinese economy is dependent on US and European exports. As foreign demand tapers off, there will be masses of plant closures in China. Keep in mind that these foreign export jobs are the most profitable, and important, part of the Chinese economy.
I also wouldn't hold out hope for Japan and Europe as growth engines in the short-term. Both those economies have become heavily embroiled in the credit bubble, and will be feeling the effects of the credit contraction for a good while. By many measures Europe is even more vulnerable than the USA. European mortgage backed securities are at higher levels per GDP than in the US, and mortgage debt is FAR greater on both a GDP and per-capita level than in the US. Just look at what is already happening in Spain, Ireland, and the UK (all experiencing their swiftest real-estate declines ever) as a foretaste of what is to come.
This is also a little like that old axiom about getting a job and being paid a penny the first day but your pay doubles every month. For most of the month your pay is relatively unchanged. It is only in those last days that things seriously ramp up. We are not even halfway through the "month" on this. It is quite international.
Where I disagree: I do think it will collapse as an alternative fairly rapidly in this country.It is becoming more and more obvious, to more and more people, that it was a huge mistake, and I am one of them. I used to seek out ethanol mixes in the late 1980's. I was a huge proponent.
I was also ignorant.
The information is now rampant regarding how it is produced, what it takes to produce it, how much energy per gallon it actually contains, etc. It is a losing game. Dramatically so.
Whoa cowboy. I said China would be invulnerable. Rather, I think there is a possibility that they will weather our crash better than expected. I would not be surprised if china went into a short depression, or if they entered a phase of hyperinflation, or if a crash in the west actually slowed their blistering growth down to a more manageable and safer pace. I think all the options are on the table, and I just want to get a feel for what the odds of each are. I agree odds of a contraction are the highest, but I think they are exaggerated none the less.
Today I read an AP article in the Kitsap Sun "Inflation Reaches New Heights" (sorry, no link) in which it says "...The Labor Department said wholesale inflation, driven by skyrocketing gas and food costs, rose 9.2 percent for the last 12 months....."
Maybe it's just me, but I am confused. What exactly does "wholesale inflation" mean, and how does it differ from plain old "inflation"?
Merriam Webster's definition of "Inflation" is: a continuing rise in the general price level usually attributed to an increase in the volume of money and credit relative to available goods and services.
Over on the blog, in the" Who Gives a RA About Banks" thread there was a bit of a discussion as to the meaning of "inflation", and "price inflation". It was brought out that rising prices does not necessarily mean inflation is occurring. Increased prices could be a result of varying exchange rates of national currencies, not because of increased money supply in the US.
Also, it seems that using the term "inflation" or "deflation" to describe trends in the economy are misleading, considering the fact that some segments of the economy can be experiencing trends that are the exact opposite of other segments, i.e. real estate vs. food and gas.
So when you read stories in the MSM about "inflation" or "deflation", what does it really mean?
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When I've seen that kind of term used in the past it has referred to price increases at the wholesale level, which are not (yet) passed along to consumers. E.g. McDonalds might pay 46 cents for a burger patty instead of 39, but they still charge 99 cents for a sandwhich.
Not saying this is a technically meaningful term, but that's what I believe the author intended.