Monday, Jul 26, 2010
Credit deflation with price inflation - it's possible
Daily Reckoning: Credit Deflation Lands in Britain
Private-sector UK loan growth overall last quarter turned negative. This has never happened before - at least not since records began in 1963. However while private net lending shrank between April and July, quarterly consumer-price inflation meantime rose to 1.3%. Deflation in credit but inflation in prices? Economists from Mervyn King to Paul Krugman say this confluence of pain can never happen. But it is happening.
Posted by drewster @ 10:42 AM (3154 views) Add Comment
29 Comments
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1. estrader said...
Economists from Mervyn King to Paul Krugman say lower interest rates and more stimulus and if that doesn't work they then say lower interest rates and more stimulus and if that doesn't work they then say lower interest rates and more stimulus and if that doesn't work they then say lower interest rates and more stimulus and if that doesn't work they then say lower interest rates and more stimulus etc...etc...
2. techieman said...
Hi est - i think we get your point. But there are 2 sides to this the supply of stimulus and the utilisation of it. The horse to water analogy..
Yes a bit of head scratching all around. Including me pulling out a few splinters. Basically if the credit deflation - i.e. overall monetary contraction (since credit is a multiple of money), lasts for any length of time then that does put downward pressure on prices, disinflation at “best”.
This is , of course why the MPC don’t want to increase the base rate (although to my mind that wont make too much difference going forward, as to if and when they are forced to).
It could be that there will be no rate rises – personally I have no real feel for whether rates go up or stay where they are. Of course some of us are not surprised by the contraction.
As an aside I looked at the BofEs own explanation re QE and in particular look at question 7:
http://www.bankofengland.co.uk/monetarypolicy/qe/askqa.htm
Quote: 7. Didn't this happen in the Weimar Republic and in Zimbabwe? Why will it be different this time? Aren't you taking an enormous risk with our economy?
In the Weimar Republic and Zimbabwe, the central bank printed money to finance government expenditure. This vastly increased the money supply, and hence prices rose rapidly. This is not happening in the United Kingdom. Here, the Bank is buying assets from the private sector to stimulate the wider economy, because otherwise we risk undershooting, rather than overshooting, the inflation target. Quantitative easing is not carried out to help the government meet its financing needs. When the economy recovers, most of the purchased assets will be sold back to investors, reducing the money supply.
End quote
Of course the inflation target is 2% - but that’s in the “medium term” - yep I am sure there will be folks on here – Paul? HPW? That say well we have been above 2% for the medium term.
Personally I think if the CPI doesn’t reduce to 3% or below next month, they probably will be forced to increase rates. But if there is a fall and M4 continues to contract they will resist that!
3. techieman said...
... and this is ABSOLUTE key:
"14. Why not purchase more corporate bonds?
Large-scale purchases of corporate assets, for instance of corporate debt or equities, would involve the Bank taking a lot of risk onto its balance sheet, the burden of which would ultimately fall on the taxpayer. So any decision to purchase large-scale quantities of corporate assets really should be made by the Government, not by the MPC or the Bank."
So the question then is - given the new government wont it be political suicide to buy such "risky" assets? Risky in as much as they may not be able to get their money back when they come to sell em.
So in short if there is QE2 - then it may be a real problem to explain that both in government and outside to the electorate. Roll of the dice? hmmm not unless things get really really bad. [which of course they might]
4. estrader said...
Hi Techie,
Your view is always interesting and well informed. They said the U.K wasn't going to experience a 'lost decade' like Japan because, well, the UK is different from Japan because... it just is...yet there is the FTSE 100, exactly where it was about 13 years ago...I know, the Footsee Wunundred is one of those stock market fingies and who cares about those!?
5. techieman said...
EST they address that on the link above. They basically say that Japan undertook monetary easing to zero but didnt undertake QE until 6 years later and then only purchased off banks.Whereas the BoE undertook both at the same time.
Obviously until recently the QE reflation / ZIRP has "worked" in terms of asset prices. The question is have we adjusted to that "artificialness" and now we are back to square 1. The whole idea was to kick start and then leave the economy to its own devices to pick up the slack..
The jury may be still out, but i am still voting the same way - i dont think this works, and the evidence is starting to look that way.. But of course i may be completely wrong.
6. jack c said...
techieman - with regard to inflation this from Citywire "The fact that inflation has been above target for 41 of the past 50 months and is currently around 2% higher than where the committee thought it would be at this point has left members unfazed"
Full article citywire.co.uk/money/a-sharp-hike-in-interest-rates-next-year-is-now-more-likely/a416830
Just got back from holiday and playing catch up at the moment
7. techieman said...
Welcome back Jack!
8. jack c said...
techieman - many thanks - hope to be back in full swing by next week.
9. nickb said...
Seems to me that the BofE's reasoning is less than sanguine on the corporate bonds point:
>"14. Why not purchase more corporate bonds?
>Large-scale purchases of corporate assets, for instance of corporate debt or equities, would involve the Bank taking a lot of risk onto its >balance sheet, the burden of which would ultimately fall on the taxpayer. So any decision to purchase large-scale quantities of corporate >assets really should be made by the Government, not by the MPC or the Bank."
It's different the central bank taking on risk and a private organisation taking it on. The central bank could simply write off any 'losses,' so it needn't 'burden the taxpayer.' There might be an inflationary risk depending on how the credit deflation pans out, and what the corporate bonds are financing, but that is a further matter.
Nick
10. paul said...
"The fact that inflation has been above target for 41 of the past 50 months and is currently around 2% higher than where the committee thought it would be at this point has left members unfazed"
This is the problem precisely - systemic and systematic willful ignorance of inflation. That's what got us into the hole, that's whats digging us deeper now.
11. estrader said...
Hi Techie, have you noticed the ES has hit 1110.00? ...and if I remember rightly:
http://www.housepricecrash.co.uk/newsblog/2010/06/blog-rent-v-buy-29370.php
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11. estrader said...[edited] About the ES – I didn’t say it is definitely going up. I want the market to crash because I want to buy, but to be honest, I’ve seen this before and it looks like another fakeout. If the market hits *1070* and the media start reporting good news then watch for the *1110* mark. If it breaks above that it will keep going.
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This is why I pay little attention to what "Economists from Mervyn King to Paul Krugman" have to say because they are either clueless, liars or corrupt. The market tells me what it proposes to do and that is all I 'listen' to.
12. Crunchy said...
10. paul
One day you might get it! It's all about perspective.
Clue: Deflation is what burns old money, Inflation restores it.
Your lifestyle to some doesn't come into the picture unless they can reduce it further to enhance theirs.
What has made you think that the rules have changed. It's a very old tradition.
You can do lots of things to break it but don't expect them to do it for you.
Recap - socialism is
13. str 2007 said...
Hi estrader, yes I remember you saying that. On what or how do you do your analysis as a matter of interest ? I assume from what you've said previously it's technical as opposed to fundamental.
14. techieman said...
EST: Fair enough!
http://www.housepricecrash.co.uk/newsblog/2010/07/blog-will-houses-be-cheap-enough-by-29537.php
Particularly points 3 and 4 - the "c" wave of 2 is underway.... when it convinces people that the bear is finshed.... thats when we have the falls:
12. techieman said...
STR 2007
Just to come back to you, yes we closed below the two trend lines I mentioned. That’s bearish. However we also overshoot my target of 5164 to the upside by a fair bit (high as 5300 and change). That would be bullish.
Ok so we are having some shenanigans in the S&Ps. As you probably know its Opex today (option expiry day). There is a theory that the price will end up at a level where most option buyers will lose their premiums and most option writers will not.
http://www.optionpain.com/CurrentPain/Current-Pain-demo.php#jump
Therefore there will – so the theory goes be gyrations but that it will tend toward the max pain level. Now I don’t know where that is personally, because I don’t subscribe to the site (I am normally not in the market then). But today I am.
In addition once it gets to the option pain price and then the options expire, there can be snap backs either way.
As for have we finished the move back up? Well I cant say I am very confident for a number of reasons:
1. The option pain skews things.
2. 5164 was taken out in a big way, to the upside, although market now trading around 5150 [and no I didn’t get stopped out].
3. The probability is that this move down from 5300 is a B wave of an abc of 2 see http://1.bp.blogspot.com/_TwUS3GyHKsQ/TD-SYPjzxHI/AAAAAAAAGXw/xg27HYmkso0/s1600/spxdaily.png
4. That means that after a bit of downside follow through it may rally once more. If it did rally really that would now be ideal (regardless of my shorts).
5. The USD could have one more lurch to the downside, which may be consistent with a move up in equities. http://4.bp.blogspot.com/_TwUS3GyHKsQ/TD-RjEKmxHI/AAAAAAAAGXg/RYlJcMPAUAY/s1600/usd.png
Of course this “c” wave could just be part of a new bull market.
And the alternative? The alternative is that we have had all the retracement and its going lower.
Will I liquidate? Well I might liquidate some FTSE if it extends a bit lower, but I will hold onto the S&P positions I have and will be stopped out at the prior high probably around 1120, or alternatively carry them forward for a profit.
As I said it all depends what happens with the Opex. That’s later today.
Friday, July 16, 2010 05:41PM
For an update see: http://www.elliottwaveforex.com/2010/07/25/spx500-elliott-wave-analysis-23rd-july-2010-video/
and
http://2.bp.blogspot.com/_TwUS3GyHKsQ/TE34T0NPXII/AAAAAAAAGmA/5nDnODPQ5ic/s1600/spx30.png
the invalidation points were good stops to get long.... for a short term long play... night!
Re captcha: "captain pivot"
15. techieman said...
"Of course the inflation target is 2% - but that’s in the “medium term” - yep I am sure there will be folks on here – Paul? HPW? That say well we have been above 2% for the medium term. "
Paul @ 10. - doesnt dissapoint!
16. estrader said...
str2007,
I use both technical and fundamental analysis.
Techie,
Interesting analysis!
17. paul said...
Paul @ 10. - doesnt dissapoint!
Techieman,
Your consistent analysis of the battle between deflation vs. inflation does not disappoint either.
Only I've been right and you've been wrong 82% of the time.
(Actually that is a rather disappointing result for you, isn't it?)
18. techieman said...
Good morning Paul :)
I dont think actually its right or wrong here. As i say its moving forward thats the key. IMO Your concerns about hyperinflation are misguided at least for the moment.
The reflation has done its job, and i have always said i am surprised that it has done so well. [thats an admission of being wrong]
The question really is why arent we having hyperinflation if your analysis is correct? In fact as an inflationist the contraction in M4 must be an enormous shock. As you know since inflation is measured by the money supply you might actually find that i am right and you are wrong... But the point is moot.
We are having the next downturn in the property market and [in my analysis] a [potentially major] downside break soon in the stockmarkets. This is of course after the market has done everything it can to f*ck the bears, cause thats the way it works.
Those are inconsistent with an inflationary - let alone hyperinflationary environment.
I of course accept i could be completely of base, but i have a fair amount riding on the fact that im not :)
As for being wrong 82% of the time - i coudl tell you a story of an options writer who was right 100% of the time and made about £3m, until he wasnt and then went bankrupt.... no it wasnt me!!
Good luck to you mate
19. techieman said...
Actually paul - i really wasn't having a go at you - i love those cartoons. Keep it up!!
EST - well yes i thought there was about a 70/30 chance that the 1105 on July 13th would be taken out. The alternative was that it wasnt and then we would really see some capitulation.
the Still as you know as a position trader i dont mind being short and caught, so long as i am in it for the big moves. I am quite happy that we broke 1102 convincingly, and the break above the 200DMA cause that will suck in some more longs and make bullish sentiment rife.
I am nursing some reasonable size open losses, and have bailed out on a few as well, but i just think the day of reckoning is put off, rather than being cancelled. As you know only time will tell!!
Good luck EST.
20. techieman said...
EST
BTW - although i have had some stock market pain - the currencies have been a bit of a saviour. I have been selling the dollar most days for a day trading profit, although as Lara shows i think that game will change "soon". And when it does it will change in a big way!
recaptcha : preempts disorders [are they trying to tell me something?]
21. hpwatcher said...
The reflation has done its job, and i have always said i am surprised that it has done so well. [thats an admission of being wrong]
Certain sectors have done well - but there are large parts of the economy that aren't doing so well. Of course those people getting the money think it's great and are shouting the loudest.
In fact as an inflationist the contraction in M4 must be an enormous shock. As you know since inflation is measured by the money supply you might actually find that i am right and you are wrong
We are going to get much more inflation, what's preventing is the lack of velocity; but that will come with time.
Those are inconsistent with an inflationary....environment.
Never-the-less, and I hope you accept, we do have inflation - rather than anything else.
22. techieman said...
hpw - hope springs internal [sic].
I think we have kicked this to death. my position remains as before... CURRENTLY you have a point!
23. estrader said...
Techie,
I am doing my best to dodge the bullets that economists from Mervyn King to Paul Krugman keep firing ;)
RC: analyzing secure
24. hpwatcher said...
I think we have kicked this to death. my position remains as before... CURRENTLY you have a point!
Okay, but would you care to give some analysis of the relationship of credit with regards to core money supply - any thoughts?
Many thanks - hpw.
25. techieman said...
i if knew what you meant by core money supply, then i might be able to help!
I thought we dealt with the difference between the monetary base and the broad money supply before. As for velocity yes thats true it is important, although i think that will stay where it is or actually slow before "in time" it increases.
In broad terms this is the 2nd wave of the deflation, and they all know it! I have long said that it was throwing good money after bad at this stage of the cycle.
I think really we have to agree to disagree on this. You may be right and i may be right. We shall see! As i said above the next CPI number will be key as to what they do.
26. techieman said...
"The reflation has done its job, and i have always said i am surprised that it has done so well. [thats an admission of being wrong]
Certain sectors have done well - but there are large parts of the economy that aren't doing so well. Of course those people getting the money think it's great and are shouting the loudest."
True - but all that the government is concerned with is the agregate numbers then the trickle down laffer curve type argument comes into play, again as far as they are concerned. The dislocation between sectors is a very fair point.
27. techieman said...
HPW - just going through some stuff on here - quiet day for me and found these (this should answer yr question re the DCB):
http://www.housepricecrash.co.uk/newsblog/2008/12/blog-ewi-ask-the-question-20442.php
and
"10. techieman said...
drewster - cant agree with this, if it costs nothing to borrow money then why would anyone want to pay to rent somewhere? I think this is when we will have a dead cat bounce. (see my posts against yours earlier today). I.e. we have a big fall, then a dead cat bounce - i.e. a shallow rise AFTER a large fall and then a further plunge. The DCB could be when rates collapse (again i cant see this being all over quickly though). The mentality i have highlighted will be probably what causes the DCB - thats NOT to say i agree with that being a reason to buy. It then ALL depends on the state of the economy AT THAT TIME. But if rates were to Fall tomorrow to 0% then surely ("A" rated credit risks) would secure any loan! [I realise thats an extreme example and obviously it aint gonna happen but im sure you get the gist].
Thursday, December 13, 2007 04:36PM"
I also posted in November of 08 that the seeds were being sown for the reflation, although admittedly how far that would go and how long could only ever be guesstimates. So no i never subscribed to the view that we wouldn't move back up for "the last 6-12 months.
-----------------
Such a doubting Thomas hpw ! ;-)
28. jack c said...
Many of us have now been hammering away for years regarding a price correction (as evidenced by techie's above post) - surely the market has to crack during the latter part of 2010/early part of 2011.
I reckon the latest excuses for a "flat market" will be the summer holidays followed by the Pope's visit (I wonder if he's coming as an overseas Edinburgh buyer)
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