Why We Will Get Stagflation

[Saberu]

Economists today typically offer two main explanations of stagflation. First, stagflation can occur when an economy is slowed by an unfavorable supply shock, such as an increase in the price of oil[1] in an oil importing country, which tends to raise prices[2] at the same time that it slows the economy[3] by making production less profitable.[1] Second, both stagnation (recession) and inflation can be caused by inappropriate macroeconomic policies. For example, central banks can cause inflation by permitting excessive growth of the money supply[4], and the government can cause stagnation by excessive regulation of goods markets[5] and labor markets[6]. The global stagflation of the 1970s is often blamed on both causes: it was largely started by a huge rise in oil prices, but then continued as central banks used excessively stimulative monetary policy[7] to try to avoid the resulting recession (stagnation), causing a runaway wage-price spiral.[2]

Source: http://en.wikipedia.org/wiki/Stagflation

[1] We became a net importer of oil a few years ago after being a net exporter for years due to the north sea oil extraction becoming unprofitable.

[2] Prices of essentials like food, electricity and gas are rising above inflation and are set to continue to rise at a much faster rate. Also the government and private companies have been able to keep wage rises lower than the rate of inflation by lying- through the use of inaccurate statistics such as CPI and by using it as the official inflation figure.

[3] As the credit crunch spreads there will be a downsizing of the financial services industry, which is the biggest driver of economic growth in this country.

[4] Practically non-existent regulation of banks from the FSA and the government leading to wreckless lending practices and greed from the banking institutions. This caused a speculative bubble in residential property which fed through to the wider economy through housing equity, MEWing etc.

[5] Planning regulations on land in the UK are very strict making it difficult to build on green belt land. As a result in an era of mass credit expansion demand has been able to outstrip supply as bigger mortgages became easier to attain yet supply growth did not rise to catch up (see [4]).

[6] Lax immigration laws allowed a huge number of Polish and other immigrants to flood the jobs market in the UK which helped keep wages down. A high growth in outsourcing of key service industries such as IT and customer support to India have also contributed to wage stagnation and unemployment in the UK. Unemployment statistics are about as useful as the CPI due to so many categorizations and opt outs to the main figure and hence can't be trusted.

[7] Central banks injecting the money supply and offering loans to struggling banks at below interbank rates. The UK government's nationalisation of Northern Rock, a bank which has provided more sub-prime loans than any other in the UK. Also a non-UK example being Bush's emergency tax releif.

I only mentions a small part of a much wider global economic picture but hopefully I highlight a good number of UK issues without going into too much detail on things as I wanted to provide a roundup of some of the indicators for the future of the UK economy.

[Flat Bear]

Good post

I think some form of stagflation is very likely and many factors are already in place.

Stagflation is the worst case senario for lower paid families and will be a very painful experience.

[Goldfinger]

Good post

I think some form of stagflation is very likely and many factors are already in place.

Stagflation is the worst case senario for lower paid families and will be a very painful experience.

Yes, good post. Hyperinflation is another possibility. I hope they can avoid it.

[A.steve]

[1] We became a net importer of oil a few years ago after being a net exporter for years due to the north sea oil extraction becoming unprofitable.

[2] Prices of essentials like food, electricity and gas are rising above inflation and are set to continue to rise at a much faster rate. Also the government and private companies have been able to keep wage rises lower than the rate of inflation by lying- through the use of inaccurate statistics such as CPI and by using it as the official inflation figure.

I don't think we'll get stagflation (in the 1970s sense) as I don't see wages spiralling.

[1] We are a net importer not only of oil, but of just-about everything. This means any wage inflation will be abroad.

[2] I argue that CPI is merely inappropriate for fiscal policy - not that it is inaccurate. It was immoral and deceptive to declare it to be "headline inflation" - since it does not represent what is commonly understood to be inflation. This inappropriate fiscal policy has resulted in a debt-bubble on both a consumer and government level... this can't continue at its current level, let-alone grow further to 'stimulate' our economy. This will also lead to a slowdown nationally - and this will further suppress wages.

[Goldfinger]

Everyone, read this:

http://www.housepricecrash.co.uk/forum/ind...st&p=980003

I then wrote:

UH, this indeed is the most important part and should be posted in any inflation/deflation thread.

The risks are indeed high and the ability of the authorities to deal with them more limited than most people hope. This is not to suggest that there are no ways out. Unfortunately, they are poisonous ones. In the last resort, governments resolve financial crises. This is an iron law. Rescues can occur via overt government assumption of bad debt, inflation, or both. Japan chose the first, much to the distaste of its ministry of finance. But Japan is a creditor country whose savers have complete confidence in the solvency of their government. The US, however, is a debtor. It must keep the trust of foreigners. Should it fail to do so, the inflationary solution becomes probable. This is quite enough to explain why gold costs $920 an ounce.

[A.steve]

The risks are indeed high and the ability of the authorities to deal with them more limited than most people hope. This is not to suggest that there are no ways out. Unfortunately, they are poisonous ones. In the last resort, governments resolve financial crises. This is an iron law. Rescues can occur via overt government assumption of bad debt, inflation, or both. Japan chose the first, much to the distaste of its ministry of finance. But Japan is a creditor country whose savers have complete confidence in the solvency of their government. The US, however, is a debtor. It must keep the trust of foreigners. Should it fail to do so, the inflationary solution becomes probable. This is quite enough to explain why gold costs $920 an ounce.

Keeping aside my irrelevant thoughts about gold as an investment class, I think the above is very astute. I think it does explain why hard assets valued in US$ are relatively expensive.

While the UK is in debt too, its national debt is far less than the national debt of the US. I don't believe that one can extrapolate from the US to the UK to conclude that investment in any asset is appropriate for Sterling investors. While I do not think there is a historic model for the UK's current predicament, the UK looks more like Japan than the USA - to me.

Edited February 21, 2008 by A.steve

[Bardon]

One theme will dominate in 2008 the rise of epic inflation. Food and fuel prices will continue to rise. Inflation will bleed into other commodities...especially agricultural commodities and precious metals. In the past, inflation has always had a national identity card. Inflation rates in China, for example, are higher than they are in the United States. Prices of apartments in Buenos Aires...subway tickets in Paris...hamburgers in Singapore - everything is going up. Now, there's a new kind of inflation - it is practically everywhere...in every country...and it risks spinning out of control is this the Mother of all Meltdowns.

[Goldfinger]

... the UK looks more like Japan than the USA - to me.

[A.steve]

Agreed - it is clearly different to both... but we're not seeing the same aggressive rate cutting that the US is doing. We're also like Japan in so far as we're a small island with a dense population... which will have an effect on real estate - which, let us face it, defines the credit markets - and hence the available funding for pretty-much all investment.

[bomberbrown]

Good post

I think some form of stagflation is very likely and many factors are already in place.

Stagflation is the worst case senario for lower paid families and will be a very painful experience.

Can someone just remind me. Is stagflation good, bad or irrelvant for those of us with savings in sterling?

[A.steve]

Can someone just remind me. Is stagflation good, bad or irrelvant for those of us with savings in sterling?

Stagflation is *very* bad for anyone with savings in sterling - especially elder, particularly retired people. It is very good for people with debts used to purchase "real" assets - especially for the young who will earn for many, years to come.

Edited February 21, 2008 by A.steve

[drminky]

Stagflation is *very* bad for anyone with savings in sterling. It is very good for people with debts used to purchase "real" assets - especially for the young who will earn for many, years to come.

Its also *very* bad for those of us on fixed incomes. Wage earners, pensioners, salarymen - that means you!

[A.steve]

Its also *very* bad for those of us on fixed incomes. Wage earners, pensioners, salarymen - that means you!

Not necessarily true. Wage inflation is an integral part of stagflation.

I think what will happen will be *very* bad for wage earners. This is why I don't believe that we will see stagflation.

[Crash Buyer]

Not necessarily true. Wage inflation is an integral part of stagflation.

I think what will happen will be *very* bad for wage earners. This is why I don't believe that we will see stagflation.

In the early 1990s we had a much shorter period of stagflation than the 1970s. IMO this will repeat this time, ending in deflation.

[A.steve]

In the early 1990s we had a much shorter period of stagflation than the 1970s. IMO this will repeat this time, ending in deflation.

On what statistical evidence do you base that claim?

[drminky]

Not necessarily true. Wage inflation is an integral part of stagflation.

I think what will happen will be *very* bad for wage earners. This is why I don't believe that we will see stagflation.

Well, it was in the 70s. But this aint the 70s. I don't see unions fighting for 20% pay rises yoy this time around. I don't see joe public clued up to the massive debasement of the currency going on..not yet.. I see this as the endgame for the majority of the western middle class.. A few of what i would call the 'capitalist' class - the smart middle class entrenpeneurs etc, will do ok, the rest of us will end up in the soup kitchen line like everybody else. ..Comforting thought..

[A.steve]

Well, it was in the 70s. But this aint the 70s. I don't see unions fighting for 20% pay rises yoy this time around. I don't see joe public clued up to the massive debasement of the currency going on..not yet.. I see this as the endgame for the majority of the western middle class.. A few of what i would call the 'capitalist' class - the smart middle class entrenpeneurs etc, will do ok, the rest of us will end up in the soup kitchen line like everybody else. ..Comforting thought..

OK, so you're a convert to the non-stagflation camp for the UK, then - assuming you accept that spiralling wages are a prerequisite to declare stagflation.

I think that the outlook for smart entrepreneurs is even more bleak than it is for the working class. Smart entrepreneurs benefit by taking carefully calculated risks. To date, they've been able to do this using leverage (borrowing against a home, for example) but in the near future this will be far, far harder to achieve. I do not see now as being a good time to speculate in entrepreneurial adventure... maybe in 5 years' time things will be different.

[Flat Bear]

Not necessarily true. Wage inflation is an integral part of stagflation.

I think what will happen will be *very* bad for wage earners. This is why I don't believe that we will see stagflation.

I think you mis-understood the concept.

Low or zero wage growth, high increasing prices of imported goods and services with prices of assets dropping. People feel very poor as credit is also subdued.

There has been one or two very comprehensive links to the likely stagflation that we are likely to face I'll try and dig one up.

[A.steve]

I think you mis-understood the concept.

Low or zero wage growth, high increasing prices of imported goods and services with prices of assets dropping. People feel very poor as credit is also subdued.

There has been one or two very comprehensive links to the likely stagflation that we are likely to face I'll try and dig one up.

Nope... I don't think I've misunderstood the concept.

Your (bold) sentence is exactly what I expect.

This, however, is not stagflation - from the definition of stagflation we need spiralling wages. This is why we will not see stagflation.

[Pluto]

Well, it was in the 70s. But this aint the 70s. I don't see unions fighting for 20% pay rises yoy this time around. I don't see joe public clued up to the massive debasement of the currency going on..not yet.. I see this as the endgame for the majority of the western middle class.. A few of what i would call the 'capitalist' class - the smart middle class entrenpeneurs etc, will do ok, the rest of us will end up in the soup kitchen line like everybody else. ..Comforting thought..

Also, in the 70s the UK was a net exporter of energy and had a trade surplus.

Stagflation now will turn the UK into third world status.

Buckle up.

Edited February 21, 2008 by Pluto

[Pluto]

Nope... I don't think I've misunderstood the concept.

Your (bold) sentence is exactly what I expect.

This, however, is not stagflation - from the definition of stagflation we need spiralling wages. This is why we will not see stagflation.

Wage increases are the next shoe to drop, and they will.

[Tonester]

I expect a significant rise in number of strikes and then we'll see if this is powerful enough to raise wages before job losses make people fearful to go on strike.

[A.steve]

Wage increases are the next shoe to drop, and they will.

Wage increases are inevitable... however they won't be for jobs in the UK.

Wages will rise in places like India; China; Poland; Czechoslovakia - etc.

[drminky]

OK, so you're a convert to the non-stagflation camp for the UK, then - assuming you accept that spiralling wages are a prerequisite to declare stagflation.

I think that the outlook for smart entrepreneurs is even more bleak than it is for the working class. Smart entrepreneurs benefit by taking carefully calculated risks. To date, they've been able to do this using leverage (borrowing against a home, for example) but in the near future this will be far, far harder to achieve. I do not see now as being a good time to speculate in entrepreneurial adventure... maybe in 5 years' time things will be different.

No, I think there'll be stagflation alright. Eventually, there'll be spiralling wages, but they won't be anywhere near the true inflation rate. And as far as the smart operators go, there'll be oppurtunities around. At least they have a chance of raising prices to cover their costs. Those on fixed incomes will have to fight tooth and nail to raise their income.. esp in recessionary times..

[Pluto]

Wage increases are inevitable... however they won't be for jobs in the UK.

Wages will rise in places like India; China; Poland; Czechoslovakia - etc.

Are the Indians, Chinese, and Polish going to do all our public sector jobs, which make up the largest percentage of the workforce? As I predict - wages will the next shoe to drop in the UK, and that will be checkmate for Gordo and his merry band.