Ballsy or Crazy? Where Are We On Inflation and Hyperinflation
For better or worse, in the financial blogosphere, I’m Hyperinflation Boy.
I haven’t actually written that much on the subject: Only five posts from a total of 82 over the last year. I posted the most recent one back in late October—over three months ago—where I made a series of concrete predictions about inflation and hyperinflation of the U.S. dollar.
The predictions were either really ballsy or really stupid—even I can’t quite decide. But be that as it may, it’s only fair and right to revisit the subject, recapitulate my arguments, and then check to see if I was on the money, or full of shit.
To begin: Last August 23, I posted an article called How Hyperinflation Will Happen. I guess the piece must’ve struck a nerve, because between my site and a couple of other places where it was reprinted, it got over half a million page views.
My basic thesis was simple: If there is another financial crisis, I argued that capital would not flee to Treasury bonds—instead, it would flow to commodities. And this spike in commodity prices would lead to dollar hyperinflation.
This argument seemed not just counter-intuitive—it appeared to fly directly in the face of empirical evidence: In the Panic of ‘08, Treasuries shot the moon, as people exited equities and every other risk asset—including commodities and precious metals—and ran for the safety of Treasuries. As an added bonus, the U.S. dollar shot up, bouyed by this rush to a safe haven.
Therefore, in another market crisis, it would seem reasonable to expect a similar outcome: Capital flows exiting whatever asset class was considered risky—as well as a few that were clearly not risky—and going to the safety of Treasury bonds and the U.S. dollar.
This surge in commodity prices would reach the consumer, and become a self-reinforcing spiral. Since the Federal Reserve cannot raise interest rates aggressively because of the weakness of the Federal government’s balance sheet, this price spiral would feed on itself, and lead to hyperinflation of the dollar.
I wrote a few other pieces around that time—What Hyperinflation Will Look Like (Aug. 26), the aformentioned A Termite-Riddled House: Treasury Bonds (Aug. 31), and Was Stagflation In ‘79 Really Hyperinflation? (Sept. 16)—which buttressed and amplified the basic argument.
Then a couple of months later, on October 28, I wrote a follow-up piece, called Signs Hyperinflation Is Arriving.
In this follow-up post, there were two noteworthy points: One, I backtracked a bit on the issue of a Treasury bond panic. And two, I made some hard-and-fast predictions as to the timing of hyperinflation of the dollar.
At the time (late October) yields on the 10-year Treasury were at around 2.50%, spreads with the 2-year were about 200 basis points—yet commodities of all classes (precious metals, industrial, agricultural, oil) were all steadily rising. This was just before the announcement of Quantitative Easing-2, but the Treasury bond market had already priced in QE-2, because of all the signals put out by the Fed in the weeks prior to the November 3 announcement.
Well, rest assured, I’m not going to turn to John Williams’ Shadow Stats: According to his very well-researched data, 5% inflation has already been breached—and rising nicely.
But in my October 28 piece, I didn’t claim that inflation would be at 5% by the end of March according to John’s Shadow Stats data—rather, I claimed that the official inflation number, non-seasonally adjusted, would be at 5%.
Insofar as the Treasury bond market is concerned, as of this past Friday, February 4, the yield spread between 2-year and 30-year Treasury bonds—the traditional gauge of investor inflation sentiment—is at 397 basis points: Closing in on record levels, investor sentiment clearly on the side of further inflation.
The rise in yields is despite that fact that, as I wrote here, the Fed is purchasing 60% of the U.S. Federal government’s FY 2011 deficit. Depending how you count QE-lite, the Fed is creating $600 billion or $767 billion out of thin air, and using it to buy Treasuries. So the obvious question you have to ask is, What would Treasury yields—and the 2-year/30-year spread—be like without the Fed’s massive purchases? A lot uglier than they are now.
 |
| You decide. |
The predictions were either really ballsy or really stupid—even I can’t quite decide. But be that as it may, it’s only fair and right to revisit the subject, recapitulate my arguments, and then check to see if I was on the money, or full of shit.
To begin: Last August 23, I posted an article called How Hyperinflation Will Happen. I guess the piece must’ve struck a nerve, because between my site and a couple of other places where it was reprinted, it got over half a million page views.
My basic thesis was simple: If there is another financial crisis, I argued that capital would not flee to Treasury bonds—instead, it would flow to commodities. And this spike in commodity prices would lead to dollar hyperinflation.
This argument seemed not just counter-intuitive—it appeared to fly directly in the face of empirical evidence: In the Panic of ‘08, Treasuries shot the moon, as people exited equities and every other risk asset—including commodities and precious metals—and ran for the safety of Treasuries. As an added bonus, the U.S. dollar shot up, bouyed by this rush to a safe haven.
Therefore, in another market crisis, it would seem reasonable to expect a similar outcome: Capital flows exiting whatever asset class was considered risky—as well as a few that were clearly not risky—and going to the safety of Treasury bonds and the U.S. dollar.
However, my point was that—between the deteriorating U.S. fiscal situation, as well as the Federal Reserve’s fast-and-loose money policies—Treasury bonds were the likely source of the next global financial crisis.
In other words, I argued that U.S. Treasury bonds have become a risk asset class. This was the key proposition of my argument, and I defended it both in the original piece, and in a subsequent piece called A Termite-Riddled House: Treasury Bonds.
I pointed out that, since the fall of ‘08, the Federal government’s balance sheet has deteriorated significantly (a fancy way of saying “They’re more in the hole than in ‘08”). The U.S. Federal government’s outstanding debt is currently 100% of GDP, and fiscal deficits are projected to be 10% or more every year for FY 2011, 2012, 2013 and 2014. State and local governments are at the point of collective bankruptcy, and will likely need to be bailed out by the Federal government—putting more strain on the Federal finances.
The U.S. Federal government is drowning in debts that cannot be paid. And since Treasuries are essentially unsecured debt, I argued that there would eventually be a panic in Treasury bonds—much like last May’s Flash Crash, but without the happy ending—which would lead to commodities spiking.
This surge in commodity prices would reach the consumer, and become a self-reinforcing spiral. Since the Federal Reserve cannot raise interest rates aggressively because of the weakness of the Federal government’s balance sheet, this price spiral would feed on itself, and lead to hyperinflation of the dollar.
I wrote a few other pieces around that time—What Hyperinflation Will Look Like (Aug. 26), the aformentioned A Termite-Riddled House: Treasury Bonds (Aug. 31), and Was Stagflation In ‘79 Really Hyperinflation? (Sept. 16)—which buttressed and amplified the basic argument.
Then a couple of months later, on October 28, I wrote a follow-up piece, called Signs Hyperinflation Is Arriving.
In this follow-up post, there were two noteworthy points: One, I backtracked a bit on the issue of a Treasury bond panic. And two, I made some hard-and-fast predictions as to the timing of hyperinflation of the dollar.
At the time (late October) yields on the 10-year Treasury were at around 2.50%, spreads with the 2-year were about 200 basis points—yet commodities of all classes (precious metals, industrial, agricultural, oil) were all steadily rising. This was just before the announcement of Quantitative Easing-2, but the Treasury bond market had already priced in QE-2, because of all the signals put out by the Fed in the weeks prior to the November 3 announcement.
Therefore, I began to wonder if whether the Federal Reserve could successfully backstop Treasury bonds, while the commodity markets continued rising unabated. After all, I had originally argued that, if there was a panic in Treasuries, this would necessarily force a rise in commodities. But if commodities were rising regardless of the Treasury bond market, then hyperinflation could be arrived at in spite of Treasury bond yields.
In other words, I began to think that a panic and crisis in U.S. Treasury bonds was not a sine qua non condition for dollar hyperinflation.
So I hedged on the issue of a Treasury bond panic. In the Oct. 28 piece, I wrote:
The other major point of the October 28 post was that I became increasingly confident in calling for precise inflation targets, which would signal imminent hyperinflation. I wrote:
So I hedged on the issue of a Treasury bond panic. In the Oct. 28 piece, I wrote:
However, I am no longer certain if there will ever be such a panic in Treasuries. Backstop Benny has been so adroit at propping up Treasuries and keeping their yields low, the Stealth Monetization has been so effective, the TBTF banks’ arbitrage trade between the Fed’s liquidity windows and Treasury bond yields has been so lucrative, and the bond market itself is so aware that Bernanke will do anything to protect and backstop Treasuries, that I no longer think that there will necessarily be such a panic.That was the major shift from my original August pieces.
The other major point of the October 28 post was that I became increasingly confident in calling for precise inflation targets, which would signal imminent hyperinflation. I wrote:
Therefore, I am confident in predicting the following sequence of events:
• By March of 2011, once higher commodity prices reach the marketplace, monthly CPI will be at an annualized rate of not less than 5%.
• By July of 2011, annualized CPI will be no less than 8% annualized.
• By October of 2011, annualized CPI will have crossed 10%.
• By March of 2012, annualized CPI will cross the hyperinflationary tipping point of 15%.
After that, CPI will rapidly increase, much like it did in 1980.Fucking ballsy! or, Fucking crazy!—You decide.
How do these predictions stack up so far?
But in my October 28 piece, I didn’t claim that inflation would be at 5% by the end of March according to John’s Shadow Stats data—rather, I claimed that the official inflation number, non-seasonally adjusted, would be at 5%.
Right now, we’re on track for that official 5% inflation rate by the end of March. There are a lot of signs that do not depend on subjective forecasts, which point to rising dollar inflation:
Most apropos, according to the Bureau of Labor Statistics’ January 14 bulletin, CPI-U inflation, non-seasonally adjusted, for the period January 2010 through December 2010 was 1.5%. The pace of inflation was rising in December: 0.4% higher than November’s annualized rate (Dec. ‘09 to Nov. ‘10) of 1.1%, which had been flat since June.
This BLS data is as of December 31, 2010—January data comes out February 17. Expectations among economists is that it will be higher.
Most apropos, according to the Bureau of Labor Statistics’ January 14 bulletin, CPI-U inflation, non-seasonally adjusted, for the period January 2010 through December 2010 was 1.5%. The pace of inflation was rising in December: 0.4% higher than November’s annualized rate (Dec. ‘09 to Nov. ‘10) of 1.1%, which had been flat since June.
This BLS data is as of December 31, 2010—January data comes out February 17. Expectations among economists is that it will be higher.
Insofar as the Treasury bond market is concerned, as of this past Friday, February 4, the yield spread between 2-year and 30-year Treasury bonds—the traditional gauge of investor inflation sentiment—is at 397 basis points: Closing in on record levels, investor sentiment clearly on the side of further inflation.
The rise in yields is despite that fact that, as I wrote here, the Fed is purchasing 60% of the U.S. Federal government’s FY 2011 deficit. Depending how you count QE-lite, the Fed is creating $600 billion or $767 billion out of thin air, and using it to buy Treasuries. So the obvious question you have to ask is, What would Treasury yields—and the 2-year/30-year spread—be like without the Fed’s massive purchases? A lot uglier than they are now.
Insofar as signs of inflation elsewhere in the rest of the world, they’re feeling the pain presently—it’s the reason Egyptians rioted: Food prices are rising throughout the world, especially China and Indonesia. The poor devote a higher percentage of their earning for food, so it makes sense to see food prices affect poorer countries first, before hitting the U.S. and Europe.
(An aside about rising food prices: Several people, including Paul Krugman, have claimed that these spikes in agro prices are a result of curtailed supply, due to natural events (wildfires in Russia, flooding in Australia, drought in Argentina). However, a 5% decline in food production does not produce a 15% rise in price all on its own. By definition, it is impossible to separate the various causes for the rise in prices in agricultural products, but historical data on grain production and prices leads even a casual observer to conclude that decline in production is not the sole factor that determines agricultural commodity prices: There have been several other years where grain production has fallen—and fallen a lot worse than this past year—yet prices have not spiked to the levels that they are spiking to now. (Krugman—once again—also creates a specious and highly misleading inference, by writing: “The USDA has estimates of price elasticities. For the United States, they put the price elasticity of demand for breads and cereals at 0.04 — that is, it would take a 25 percent rise in price to induce a 1 percent fall in consumption.” This leads an unsophisticated reader to infer—erroneously—that a 1% fall in production could mean a 25% rise in price, yet allows Krugman to claim that he never said such a falsehood. Another example of his throwing a rock and hiding his hand—someone really should go over his serious work and logic-check it.))
So as of today, there are clear, unmistakable macro-signs that inflation is rising, across the board.
Apart from a., the official CPI-U numbers for December, and consensus expectations of their continuing to rise, b., the Treasury bond market’s signal of inflation expectations, and c., food price inflation in the rest of the world, there is the indisputable fact that commodity prices (precious and industrial metals, oil, agro) have all steadily risen in price since December 2010; only gold has been a bit topsy-turvy.
My March 2011 prediction of 5% annualized inflation is still two months away—but it looks as though it’ll be met. This upcoming April 15 we’ll know for sure.
If we do, then I think the July prediction is an easy money bet—the real issue will be September-October of this year: That’ll be decision-time for the Federal Reserve. They’ll have to decide whether to raise rates to stem rising inflation, or whether they’ll stand pat.
I think they will raise rates—but I think they will be timid, and raise them to match the annualized inflation rate, as opposed to doing a Volcker and shoving the rate a good 300 to 500 basis points above the pace of inflation.
But that’s for September-October. For now, this is where we are.
If we do, then I think the July prediction is an easy money bet—the real issue will be September-October of this year: That’ll be decision-time for the Federal Reserve. They’ll have to decide whether to raise rates to stem rising inflation, or whether they’ll stand pat.
I think they will raise rates—but I think they will be timid, and raise them to match the annualized inflation rate, as opposed to doing a Volcker and shoving the rate a good 300 to 500 basis points above the pace of inflation.
But that’s for September-October. For now, this is where we are.
I don’t know if I’m being ballsy or crazy to have predicted specific inflation targets: All I can say is, it’s exciting.
This coming Thursday, February 10, at 9pm EST, I’ll be having a live debate with Nicole “Stoneleigh” Foss, of The Automatic Earth, on precisely this subject: Deflation vs. Hyperinflation.
We will be taking audience questions. You can register here.
Hope you will join us!
GL
20 comments:
- Anonymous said...
- Great stuff GL. That treasury yield curve never lies (unless it's being manipulated). Remember the inverted yield curve that hung over the housing bubble? Bond investors know their business.
- February 6, 2011 1:57 PM
- wmdwfprez said...
- You'll be called crazy by a lot of people but not me. I've seen the inflation you talk about already starting to take hold where I live. A dozen eggs 3 weeks ago was 99 cents but now a dozen eggs are almost 3 dollars. Thank you for coming out and saying the truth about the inflation that's here and the coming hyperinflation.
- February 6, 2011 2:00 PM
- Polumetis said...
- Small correction - you cited the 2-20 spread; it is the 2 year/10 year spread... We will be there soon! Good luck in the debate.
- February 6, 2011 2:30 PM
- Gonzalo Lira said...
- CORRECTED—thanks for the catch, Polumetis. GL
- February 6, 2011 2:53 PM
- Ebag said...
- I believe that your original prediction that a collapse of Treasuries will lead to hyperinflation is correct. As interest rates rise, in response to price inflation, pensioners will see their Treasuries mutual funds lose money. It's bad that they are getting, practically, no return in those funds from the low interest. But to loose money! They are going to panic and sell those mutual funds. Then the "death spiral" begins.
- February 6, 2011 4:17 PM
- Rick said...
- I think banksters will continue to milk current monetary system untill currency collapse and then go hide in there bunkers/vaults. After 50% plus population has succumb to starvation/violent chaos and started PM based system they will resurface with there vast PM hoarde and take up where they left off. Over simplified but you get the idea.
- February 6, 2011 4:31 PM
- K Smith said...
- I participate in a national effort to track inflation where it counts - at the grocery store and the gas pump. Those of us who buy food to feed our families and put gas in the car know the real rate of inflation. So far our efforts have revealed an annualized rate of inflation of 12.4 % for the 8 weeks ended January 5, 2011. Buckle your chin strap. We are in for a bumpy ride.
- February 6, 2011 5:34 PM
- Gonzalo Lira said...
- K Smith, why don't you post a link to your data. GL
- February 6, 2011 5:41 PM
- Gordon Pratt said...
- "I think they will raise rates -- but I think they will be timid..." - GL That is how inflation really got going in the '70s. CPI would come in at 6%, fed funds rate went to, say, 4 1/2%. Next report saw inflation at 8% so short rates went to 6%. Interest rates followed inflation because people were content with the promise of action without the performance. I do expect something similar this time too so we can go on with rising inflation and rising commodity prices for a long time.
- February 6, 2011 7:24 PM
- Count deKuntier said...
- Pertaining to your Chinese inflation: The bus fare from Qingdao to Rizhao has increased by 6% since 21 Jan 11, from 78 to 84 dingdong. Not sure about food prices, as we would shop after hot pot and somewhere north of 4 500mL Tsingtaos. The price increase may be attributed to the Chinese New Year, but I doubt it with government price controls. Looks like you're fucking ballsy and spot on. Batten down the hatches... C deK
- February 6, 2011 7:46 PM
- california womanl said...
- GL Jim Rickards has been on the fence for a while now, but recently said it looks as if inflation is going to win. http://bit.ly/hmsoeZ
- February 6, 2011 9:52 PM
- california womanl said...
- Oops. Last link was incorrect, here is the correct one. http://bit.ly/dYUI9x
- February 6, 2011 9:55 PM
- Anonymous said...
- US = bankrupt - Most US sheep have no idea what is coming....
- February 6, 2011 10:40 PM
- Vincent Cate said...
- Hyperinflation is a feedback loop. Money printing, loss of confidence, falling bond sales, higher interest rates, increased velocity of money, higher prices, all feed on each other. So arguing if the feedback loop starts with "falling bond sales" or a "loss of confidence" is like arguing which comes first, the chicken or the egg. Hussman calculates how higher interest rates lead to higher money velocity, and so higher prices if the quantity of money is the same. So he says the Fed must withdraw money when interest rates go up. Mish notes that the Fed would lose big time if they sold bonds after interest rates go up, so they must hold to maturity. If you put these two together, neither of which is a hyperinflationist, you can show we are headed toward hyperinflation. http://howfiatdies.blogspot.com/2011/01/hussman-mish-hyperinflation.html
- February 6, 2011 10:49 PM
- K Smith said...
- GL, The inflation tracking I am involved with is a voluntary grass roots effort. I am reluctant to even share the name of the group here because trolls may attempt to infiltrate the group and corrupt the data. You have written of such trolls here. We all know the Fed is paying PR people big money in an attempt to convince us what we see all around us is not really happening. Our group consists of several hundred people all over the country who conduct weekly price surveys. We gather retail pricing on regular gasoline, and a list of common household grocery and personal needs products you would find in a typical family grocery cart as part of weekly grocery shopping. There is no Kobe beef, organic coffee, or convenience foods. The data collection, compilation, and analysis are all conducted on a completely voluntary basis. The data and analysis are not publicly available. Because of the nature of our data collection process it is not possible to put in place the controls necessary to protect against those who may join the group in the future who may have nefarious intent. We do have some controls that assist in identifying interlopers but we do not want to roll out the red carpet. I do not mean to create the impression that we are some mystery organization. We are not. But we have worked really hard to establish our inflation tracking effort and I do not want to jeopardize the integrity of the process or future data. I will continue to share the results here when it is appropriate to the topic at hand. Or I can email it to you when it is available. I'll include more detail with future results. You and others will have to draw your own conclusions about my integrity and the accuracy of what I share. KS
- February 6, 2011 10:49 PM
- Anonymous said...
- I agree with your blog GL, but would add that food inflation is being impacted by corn conversion to fuel, something that is totally foolish. Also, alcohol blended fuel contains roughly 95% of the energy contained in a gallon of gasoline. On an energy equivilent basis it should be about $0.15 a gallon cheaper than regular gasoline.
- February 6, 2011 10:51 PM
- Anonymous said...
- Paul Krugman is not an economist, but a very irritating propagandist for his fellow, the irritating inflationist Bernanke.
- February 7, 2011 12:11 AM
- hvelarde said...
- Is 15% annualized CPI hyperinflation? I don't think so... http://en.wikipedia.org/wiki/Hyperinflation
- February 7, 2011 2:02 AM
- Anonymous said...
- I regularly drink orange juice. I buy their Stater Bros brand at the Stater Bros supermarket. A 64 oz carton cost $1.79 two years ago then it slowly going up to $1.99 then $2.19 to $2.39 and now $2.49. I stop drinking orange juice 4 months ago because it is too expensive. I couldn't afford brand name orange juice like Dole, Minute Maid, Florida's Natural, Simply Orange Juice, Tropicana, Mott, etc. because their prices are above $3.00.
- February 7, 2011 3:57 AM
- Anonymous said...
- From Kansas to K Smith, why not email the link info for that grassroots organization. If you ask him to guard it, I trust that he will. Great Article GL!
- February 7, 2011 6:51 AM
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GL
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