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DISinflation leading potentially to DEflation

Posted by jdavis on October 27, 2014

           US Govt borrowing rate since 1995

As everyone knows, inflation and interest rates have fallen, on a trend basis, since the 1970s.  There are many reasons for this.  Margaret Thatcher's Government started the process (1979 onwards) by controlling the, by then, ever expanding money supply (borrowings).

Then in the 1990s and 2000s we had the deflationary effects of Globalisation (eg Chinese manufacturing) and Technology (eg Internet).

Thus, as inflation fell, so could interest rates.

The curious thing is, since 2009, Governments all over have printed tens of TRILLIONS of (Dollars/Euros/Pounds etc) and pumped it into the system.  The money has, in our view, simply been borrowed from the next generation.  Do not, for one moment, think that there will not be a piper to pay.   There will and he's getting closer.

Yet, with all this printing, we have not seen currencies debase.  Thus, we have not seen rising and rising inflation.  On the contrary, look above, we have seen ever lower and lower interest / borrowing rates.  This is the opposite of Inflationary.


At the least, it is DISinflationary (falling inflation).  It may even be DEflationary (falling prices).

The people should rejoice if it is the latter.  Can you imagine buying the same groceries for your weekly shop and paying the same in 20 years as today?  Or less?   THAT is what the Japanese experienced between 1989 and 2012.

Yet the politicians and the Central Bank (The Bank of England) are doing everything they can to ensure you do not have falling prices.  Why?  When it would obviously give you more security and spending power.  Because the Government owes a huge amount of money (built up largely over the last 15 years) and Deflation will increase the real value of it and Inflation would reduce it.  So, inflation helps indebted Governments and deflation helps the people...

The point is we have been in an era of disinflation for many years and we are very close now to deflation.

If - big if - we experience what the Japanese experienced we would find our stock market collapse over a decade or two as well as our real estate prices.

Certainly, we KNOW that Western interest rates are in many cases at ALL TIME LOWS and heading further down or at multi year lows and heading down.  Not inflationary.

Indeed, the interest rate that Germany now pays to borrow over 30 years is just c 1.8%, compared to the US rate of c 3%.  The US rate probably has further to go down.  Not inflationary.

Also, Germany now pays a NEGATIVE rate when borrowing up to 3 or 4 years out.  DEFINITELY NOT INFLATIONARY!

Why else might we be heading into Deflation?

An oil price shock (to the downside!) would be deflationary.  And...

Oil is heading towards the lows of the crash of 2008/09.  Whether or not it gets there is not the issue.  What is the issue is the global oil price - in the face of terrible Middle East troubles - is falling AND NOT SOARING.  This is indicative of a global economy in trouble, as we have been pointing out privately and publicly since last year.  We have repeatedly pointed out the relevent economic statistics and all people could do was respond with the UK's GDP growth.  Big deal.  A) This is due to vast Government borrowings and B) Government guaranteed mortgages... which again our children will have to pay for, if they go sour.

The facts are that all over the World growth is falling or already no longer growth but deep Recession.  Hence, the oil price back to 2009 prices.

Then we look at the US Dollar.  Almost all globally-traded goods (commodities) are priced in US$.  See this snippet from Trading Places, for a smile.

If the US$ rises this is normally negative to commodity prices - thus Deflationary.

If the US$ falls this is normally positive to commodity prices - thus Inflationary.

You will note, above, the global oil price peaked in the middle of 2011.  That is relevant to the next chart of the US$.

The green and red bars show the index of the US$ (against the accepted basket of World currencies such as €, £, Swiss Franc etc).  As you see, the US$ fell from 2002 (around the end of the Dot Com bust) to the beginning of the next crash in 2008, whereupon it soared.  Why?  Because it was and still is thee safe haven currency.  When all around are crashing, global investors flock to buy the US$ and park their money by lending to the US Government.

Clearly, the US$ bounced around for 3 years and bottomed in ... the middle of 2011, when oil and most commodities topped out.  Since then, commodities have fallen or collapsed in price.  Deflationary!

That the US$ rose sharply this Summer is not so material.  Indeed, it may pullback a little for now.  However, the US$ remains in a multi year bull market and could rise for years.  In which case this would be Deflationary.


In deflation, Govt Bonds tend to perform extremely well; cash is brilliant; property and shares do really badly.

How is your portfolio positioned again?




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