Posted on 04/22/2011 10:04:07 AM PDT by Uncle Miltie
Day after day the American public is inundated with media stories about surging food and gas prices, but if they want the real inflation story, they should ask a bartender.
The rate of change in prices for a beer or cocktail at the local pub—a component of the Consumer Price Index—is actually decelerating from a year ago. In fact, the annual change in prices for data processing, recreation, lodging, medical services and tuition are all showing a downward trend, according to David Rosenberg’s analysis of the government’s CPI data.
With all the hubbub about $100 oil, surging food prices, along with the comparisons to the 1970s, Rosenberg, who is chief economist & strategist at Gluskin Sheff, is trying to make the point that the U.S. is now primarily a service economy, with these industries accounting for much of our employment and two-thirds of our spending.
“Service sector inflation is now running at historical lows of little more than one percent, and here we are about to enter the third year of a statistical economic recovery,” said Rosenberg, formerly the economist at Merrill Lynch where he made his name by going against the perma-bullish Wall Street crowd. “Service sector inflation used to be sticky, because this area of the economy years ago was dominated by unions, was protected by entry barriers, and did not face much in the way of competitive pressures.”
“The times have changed,” wrote Rosenberg in a note to clients Tuesday.
Oil prices topped $110 a barrel and wheat added to its more than 60 percent 12-month gain on Tuesday. But the economist knocks down the notion that higher prices for these commodities will spark inflation for the rest of the economy. He argues that if service providers try to pass through prices to cover these higher input costs, the consumer will just stop spending, leading to demand destruction and a deflationary recession.
“Commodity-based economies have a serious inflation problem because food and energy are so crucial to that smokestack, low-income model,” said Steve Cortes of Veracruz LLC. “But in a services-based economy like the U.S., many areas are outright deflating, like technology — and many more key areas churning sideways: professional services, brokerage of all kinds, hotels. Inflationary periods like the 1970s start with wage inflation, which is sorely missing from this recovery.”
Indeed, Rosenberg found there is an 88 percent correlation between wages and inflation —and wages today, adjusted for productivity gains, are declining on an annual basis. Don’t look for that to change any time soon with unemployment still above 8 percent. Maybe that’s why the Federal Reserve says it has a dual mandate of stable prices and full employment.
Meanwhile, Fed Chairman Ben Bernanke is taking big hits from economists, leaders of nations, and even other members of the central bank’s Open Market Committee, for keeping rates effectively negative through his ongoing purchases of Treasury securities, the infamous ‘QE2.’ They say this easy money is responsible for the spike in commodities, which overshadows the slack in services, housing, and wages, and will lead to out-of-control inflation.
But what Rosenberg and others are saying is that Bernanke is shooting blanks. The Fed may be printing money, but it’s not multiplying through the economy like it once did. That’s because banks are not using it to extend credit, said the economist. Also, our economy has generally become more resistant to the Fed’s reflation powers because of productivity gains from technology and globalization, the doves say.
“The money multiplier has been broken for quite some time, and recently it is going lower,” said Brian Kelly, of Brian Kelly Capital, citing money supply data that for every $1 pumped into the economy only 76 cents is being created. “In effect, monetary policy has been losing its potency for 30 years. What the Fed is doing now is stepping on the gas while the tires spin in the mud.”
To be sure, the overall CPI index released last week showed a 2.7 percent annual increase in March, the biggest jump since December 2009. Excluding food and energy, prices increased by 1.2 percent.
“The U.S. has never had deflation with rising money supply and stock prices,” said Joe Lavorgna, chief U.S. economist at Deutsche Bank. “In fact, last quarter the CPI rose over 5 percent, the PPI was up 13 percent, and inflation expectations were well above 3 percent. This is not the stuff of deflation.”
It seems the majority of economists and investors are in the Lavorgna camp and expect the Fed to ease off the pedal this year. Still, there are new factors that could swing the inflation vs. deflation argument back in Rosenberg’s favor, and Bernanke’s, for that matter.
Standard & Poor’s cut their outlook Monday on U.S. debt to negative. If the country is going to keep its triple-A rating and the low borrowing costs that come with it, Congress is going to be forced to do a mix of spending cuts and tax hikes, the agency said.
Rosenberg’s argument is not that far-fetched because “the U.S. recovery has been far more tepid than normally the case,” said Sean Egan, President of Egan-Jones Ratings, who changed their U.S. outlook to negative back in March. “And sovereign-crisis related austerity measures and tax increases are deflationary.”
Death by liquor or by Smart Car.
Your choice.
The article makes sense to me and I agree with it. There are plenty of items I purchase that have not experienced any significant price increases.
You can’t have inflation just because prices in a few sectors are soaring. This is one of the largest purchases you can make, and for years I have seen very little inflation in the sector. I remember in the early 1980s, every year the auto manufacturers would cite large price increases in comparable models. Currently, price increases are mild with some models lowering in MSRP. The 2011 Dodge Challenger is actually down in MSRP from the 2010, down from $30,860 for the 10 to $29,670 for the 11, despite some 11 MY improvements.
I don’t see inflation. I worry it is coming because all government policies are designed to create it, but so far they have been unsuccessful in the face of the massive deleveraging of the past few years. I have faith they will get it, but it is not here yet.
The high commodity prices in food and energy could be due to speculation and the 0% prime lending rate, as much as due to incflation. I do have faith in the government’s ability to debase the US dollar and cause inflation, but I sure don’t see it yet.
You will know it when it is here. It won’t affect some sectors and not others. It will be a general price increase widespread and of sufficient order to trigger wage inflation. Today we have NO wage inflation. I am no economist so I can’t answer the chicken & egg question which comes first, but I do know enough to know that you can’t have sincere inflation without wage inflation accompanying it. If incomes don’t rise, there can’t be the flow of money needed to maintain a vicious cycle of ever increasing prices.
What we have now is people have incomes that are fixed or falling, so they are simply cutting back in other areas to pay the increses in food and energy. That is NOT inflation.
But it is coming. You will definitely know it when it is here. Your pay will be up but your spending will be WAY up and your lifestyle will be steadily falling. You’ll be making more each year and asking why you never get ahead because you are being squeezed more financially despite the pay increses.
The article is right. We don’t have inflation yet. We have price increases in necessities and stagnation/disinflation in luxuries.
The article is also correct that the Fed’s monetized debt money is not moving - its just sitting in the banks for now. But some day it is coming into play and when it does, it will be a violent flow of money and then WHAM! double-digit inflation!
When we get real inflation, you will definitely know it. You won’t be talking about milk prices and gas. You’ll ask why your new gas barbecue doubled in price. Why Chinese shoes are suddenly so expensive. Why hotel prices are way up all of a sudden. Why the price of lumber and brick and ready-mix has soared. Why carpet prices leapt up. Why big screen TVs are suddenly priced out of reach - instead of being the dirt cheap bargain they are today.
No, when we get real, sustained double-digit inflation you will definitely know it. It won’t be limited to just food and energy and healthcare.
Yeah, I’d like to see where tuition is going down, because mine has gone up every single year since I started college. Sometimes as much as 10% in a single year.
Come to think of it, is this weighted by how much people spend in particular areas? I’m pretty positive I spend a lot more on rent, electricity, food, and gas than I do on buying new cars or new computers. And I don’t go to bars anymore, because I don’t have the spare cash.
Inflation is an increase in the over all price level not increases in one or two sectors.
Oil prices are high because we have an administration that is opposed to creating new supplies for energy.
Food prices are high as much because of the diversion of food stocks into our gas tanks because the administration refuses to allow more drilling. These are not the result of monetary mischief (as Milton Friedman called one of his books.)
As long as housing prices are in a massive deflation I don’t see how real inflation can occur.
While I can’t explain how the conclusion that medical services prices were declining, the past increases in both medicine and education were driven by demand increases not inflation.
Destruction of supplies during the great depression were not examples of inflation just the removal of supply. Paying farmers not to grow things is also removal of supply.
Inflation is a GENERAL increase in the overall price level not increases in one or two areas. And inflation is a monetary phenomenon. You cannot have an increase in the overall price level without an increase in the money supply.
You are correct to point out that there are other aspects than mere creation of excess money to worry about. Velocity of circulation of the money is also a variable in the P*Q=M*V equation as is productivity. But generally both the latter and velocity are things which change more slowly and over a longer term.
Are you saying that demand is dropping for those areas? Not that some one is actually trying to destroy demand?
Technological improvements are always “deflationary” in the sense of increasing productivity so Q increases given the same other inputs.
And those sectors which are most problematic and visible: food and energy are showing increases in prices because of the policies which reduce supplies. Burning corn to run our cars and impeding the oil and gas sector from increasing supplies are the main culprits rather than the increased money supply.
Yes the price indexes are weighted.
I am saying the demand is dropping in such a manner that it is not just short-term adjustments to market forces but broader cultural changes to where some of that demand will be long in coming back, if ever.
Hang in there. When I realized I no longer was paying tuition for my boys my disposable income increased a lot.
But it was worth it as yours will be.
Yes, you can get deflation in items that are not necessary, while getting hyperinflation in “necessity” items. The 1930’s was a strong case of this, and the 1970’s exhibited similar behavior in the inflationary pressures.
Necessities will skyrocket in costs, but other items will either stay the same in price, or fall. You will see many of those businesses fold because they can’t make enough money to cover their material and shipping costs.
You might want to have a look at the velocity charts before putting too much faith in the idea that velocity changes slowly.
Velocity fell into the basement in a very short amount of time in 2008. It has’t really come back out since.
Perhaps we are seeing evidence of the “liguidity trap” that Keynes theorized about in the 30s when monetary policy seemed to be ineffective.
I did not mean to imply that velocity does not on occasion change radically.
That change supports my contention that the price increases in energy and fuel are not primarily drive by monetary policy.
Perhaps we are seeing evidence of the “liguidity trap” that Keynes theorized about in the 30s when monetary policy seemed to be ineffective.
I did not mean to imply that velocity does not on occasion change radically.
That change supports my contention that the price increases in energy and fuel are not primarily driven by monetary policy.
I think we are seeing a liquidity trap. Check out the reserves of Federal Reserve member banks... and then check out the rates of loans being made in the commercial sector(s).
I think the evidence points to a lot of the new liquidity being created by the Fed is being stacked up on bank balance sheets in excess reserves. Since the current policy rewards excess reserves and there is less risk in keeping excess reserves than in making new loans, the low-risk play by bankers would be to pile up reserves and sleep on them.
re: price increases in fuel/energy: I think that the declining value of the dollar and the fungibility of oil makes it a good currency hedge vs. the US dollar. If we were playing with billions of dollars, why would we want to deal with the complexity and volatility of the gold market, where we would/could suffer precipitous declines as were seen in the early 80’s? With oil, we know that there is an increasing pool of consumers who need oil, therefore it is a lower risk dollar devaluation play than gold/silver/etc.
Raw economic reality in our post-bubble world.
A lot of consumer spending was generated by home-equity loans. Most of that is gone now.
Unemployment and underemployment is rampant. Unemployed and underemployed persons consume far less luxuries and investment advice and medical care.
And the very notion of retirement is changing as we face the yawning gap in entitlement obligations.
Basically, there simply is a lot less discretionary income than there was just 4 years ago, and I don't see all that much of it coming back any time soon.
Wage inflation is not occurring now because of jobs destruction. This is not like the 70s. People who want to draw comparisons to the 70s are going to be blindsided. We have massive commodities inflation because the US is openly debasing its currency to finance insane deficit spending. Investors have no hope that the dollar is going to turn around, and very little that it will even survive.
This is inflation caused by crazy and destructive monetary policy. Rein in spending and allow interest rates to rise to their natural market based level. Commodities prices will drop rapidly. No chance of this happening, of course.
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