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Boo! The Inflation Bogeyman Awakes

Posted on Thursday, June 3rd, 2010 at 5:12 pm (140) comments

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By: Richard Smith (SD User: dittyesq)

June 3, 2010

There’s an elephant in the room, Slickdealers, its name is “Inflation.”

Across the country, fears run rampant that America is about to awaken in the middle of the night, and find the Inflation Bogeyman sitting at the foot of our national bed. (Presumably, with bared fangs, and drooling.) The Fed and Treasury have been running the national printing press 24/7, most famously spilling out $700 billion in TARP money, and according to a recent report by the GAO, undertaking to borrow some $3.1 trillion (that’s right. With a “T”) over the last two years.

Meanwhile, across the pond, Europe has just come off its own Euro-TARP equivalent, and is diving headfirst into Round Two with an estimated $1 trillion dollar bailout of the sovereign debt obligations of Portugal, Ireland, Italy, Greece, and Spain (poetically abbreviated as Europe’s “PIIGS”). And that’s not to mention the stimulus spending in China, and in Japan, and in Brazil, Russia and who-knows-where-else, as governments around the globe take a sledgehammer to the spending spigot, and let ‘er rip full blast.

We’re awash in liquidity! Hurray?
With so much spending going on, and precious little economic growth to back it up, the fears naturally arise: Devaluation. Inflation. The return of the incredible “shrinking Dollar.”

A simple Google search reveals how Americans are reacting. Type in “cash” and “gold”, and your computer screen will soon fill to brimming with sites — Cash4Gold.com, Goldstash.com, etc., etc., and on and on, offering to trade you dollars for shiny rocks.

But it’s not just gold. Investors are bidding up hard assets of all stripes — gold, silver, oil, and copper, and the stocks that trade in them. Anything that’s a “hard good,” useful, valuable in its own right, is rising in price, as investors worry that the dollars needed to buy it today will soon shrink in value, and the number of dollars needed to buy it tomorrow are bound to grow.

But… is inflation really inevitable? Or are we just jumping at shadows?

The bogeyman is real
In common parlance, we usually define inflation as the result of “too much money chasing too few goods.” Or as a few of our more academic-minded Slickdealers have been discussing lately, as an “increase in the monetary supply” while the supply of goods remains constant. And under this definition, you’d certainly expect inflation to be in the works today. Here are just a few of the arguments in favor of why inflation is in our future:

• The U.S. Government has printed trillions of dollars to bail out the banks and the automakers. Billions more to subsidize the purchase of tomorrow’s clunkers, to pay caulkers, and induce the purchase of the very new homes that got us into this mess in the first place.
• Foreign governments are doing the same. Not only did they run their own printing presses to combat the Economic Meltdown of 2008 — they’re revving up their motors yet again today, in a perhaps doomed attempt to keep Greece from undergoing financial nuclear meltdown.
• Meanwhile, the economy’s perking up back here at home, yet the Fed still has interest rates set at near-zero.

How can any of this lead to anything other than an increase in the “money supply?” How can inflation be anything other than a certainty?

The bogeyman’s a hoax
Here’s how: In order for inflation to materialize, people have to use all of this money that the governments have been printing. They’ve got to put it to work, attempting to buy stuff. Once the owners of said stuff see all the money chasing their goods, they will naturally raise prices to grab as much of the money on offer as possible, and — voila! Inflation.

But newsflash: They’re not. Not spending money. Not selling stuff. Not raising prices. Why not? Here’s a few clues:

• Nationally, housing prices have dropped 30% from their peak — sucking billions of supposed “dollars” out of the economy.
• The stock market has shed a similar amount, with the Dow down about 28% from its peak.
• And across the nation, we’re flirting with 10% “official” unemployment, and nearly another 10% of the working population either underemployed, earning depressed wages or working part-time, or having just plain given up looking for work (and therefore not being counted as “unemployed.”)

Meanwhile, on the corporate side of things, US banks shrank their loans to businesses by nearly 25% over the past year and a half, while lending to consumers is similarly depressed. Between the lack of loans, the lack of income, and the declining value of their assets, U.S. consumers increased their spending by just 0.1% last month.

Defying the common wisdom, therefore, with no one loaning, and no one spending, the amount of cash flowing into and through the economy actually shrank this year. The British newspaper The Telegraph, reported that the amount of money circulating through the U.S. economy declined from $14.2 trillion to $13.9 trillion over the first three months of this year. So, far from seeing an expansion of the money supply we’re currently looking at an annual rate of contraction of 9.6%! According to Professor Tim Congdon from London’s International Monetary Research Ltd., “The plunge in M3 [i.e. the money supply] has no precedent since the Great Depression.”

Depressing thoughts
And you thought the British were subtle. But here in America, the folks tasked with keeping the inflation bogeyman leashed pretty much agree with the Professor’s take on things. In the most recent Federal Open Market Committee report, Fed policymakers were quoted predicting that “inflation is likely to be subdued for some time.” And as defining “some time” as “through 2012.”

Conclusion: Rest easy, tiny Slickdealer. There’s no inflation bogeyman in your closet. And there won’t be for some years to come.

(But what if I’m wrong? Stay tuned — our next column will discuss a few ways you can keep the bogeyman from swiping your savings if and when he does turn up.)

International lawyer by day and Slickdealer by night, Rich Smith is always on the lookout for a good bargain. Helping corporations pillage Third World economies is great for paying the mortgage, but Rich’s real loves are writing about stock investing for The Motley Fool, buying cheap stocks for his own portfolio, and strolling the aisles at Slickdeals in search of the ultimate blue-light special. A veteran of Moscow, Kiev, and Washington, D.C., Rich has traded-in city life, and now takes his ease in the fields of rural Indiana.

Thank you to Renjith Krishnan for the image above.

Image: renjith krishnan / FreeDigitalPhotos.net