No inflation celebration for us

[EJ]

No inflation celebration for us

Rising October retail sales numbers are being reported as a sign of economic recovery, especially auto sales, but the stock market knows better. We’ve been tracking producer price inflation increases since early 2009 on the expectation that six months to a year after input costs rise in response to monetary policy, consumer prices will rise disproportionately to rising demand as the economy recovers. Retail sales data are not inflation-adjusted and our analysis indicates that the widely reported increase in retail sales to consumer is in fact largely inflation. Consumer price inflation is finally arrived and the stock market doesn’t like it one bit.

Markets fall on global woes, offsetting retailers

NEW YORK, Nov 16 (Reuters) - U.S. stocks fell on Tuesday on continued concerns about China and Ireland, which offset strong quarterly results and upbeat forecasts from Dow components Wal-Mart and Home Depot.

Shares in Europe fell 1.2 percent ahead of a meeting of euro zone finance ministers, who will try to find a way to end Ireland's debt crisis, but Dublin resisted pressure to seek a bailout.

"There's a global concern that if Ireland needs aid, it could become a domino effect with other countries," said Cort Gwon, director of trading strategies and research at FBN Securities in New York.

"Especially at such a sensitive time in the economy to have a setback in Europe could mean a setback for the rest of the world, too."

AntiSpin: Yes, the European Debt Crisis is not over and yes inflation is high in Asia. Inflation, don’t you know, is America’s number one export. But that’s not what’s ailing US stocks. The false flag of rising retail sales is clear evidence of rising consumer price inflation right here at home. This before the Fed’s new wave of money printing hits the streets.

Reports like this one highlight auto sales as the bright spot in the US retail market.

Retail sales rise is led by higher auto purchases

WASHINGTON (AP) -- A surge in auto purchases helped lift retail sales in October by the largest amount in seven months. But excluding autos, retail sales rose more modestly.

Are auto makers selling more cars or charging more for them?

Autos are the only consumer good that the BLS tracks by unit, so establishing whether unit prices are inflating or deflating is relatively simple task.

First we establish auto unit sales level for the recovery relative to past recoveries.

On the surface, it appears that auto unit sales are recovering nicely. However, they are only back to post-1990 recession levels, when the economy was 40% of its current size in GDP terms. Auto sales have a long way to go before they reach pre-crisis levels. If autos are the light at the end of the tunnel, the rest of the retail sales picture must be grim indeed.

Next we look at the long-term trends of auto unit price inflation versus consumer price inflation generally to see if even this supposed bright spot in retail sales is meaningful.

Auto unit price inflation outpaced overall CPI from 1974 to 1980, another period when the CPI understated actual consumer price inflation.

From 1980 to 1997, auto unit price inflation more or less tracked consumer price inflation overall. Then the auto price inflation index actually declined from 1997 until just after the end of 2007 to 2009 recession. The reason is that consumers tended to buy less expensive cars. Since early 2009, auto price inflation has once again started to rise as quickly as inflation, as it did before and after The Great Inflation of the 1970s.

If auto unit costs are inflating, what about retail prices generally? If we look at the official Real Retail Sales data, without CPI inflation, sales appear to be improving.

The BLS uses the CPI to deflate Retail Sales to produce retail sales dollar spent by consumers net of CPI inflation. The CPI is tied to a wide range of government obligations, such as TIPS and Social Security payments, so we’re not confident in the CPI as an independent source of inflation data, especially during inflationary times. We are more comfortable with the producer price inflation (PPI) indexes that are not tied to government obligations. The PPI indexes are rarely re-composed. If we deflate Retail Sales by the PPI for finished goods, we get a very different result.

Instead we see Retails Sales continuing to fall in real terms since the mid-point of the recession. That means that even though unit sales volumes are up, inflation is up even more. We agree with Paul Volcker’s recent statement, that an economy cannot inflate its way back to health. But what Volcker doesn’t understand is that asset price deflation puts the Fed in a bind. Raise interest rates to attack commodity and consumer price inflation and the FIRE Economy crashes again. Do nothing and the FIRE Economy crashes anyway as commodity and consumer price inflation wreck the bond market.

What a mess.

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[Chomsky]

Re: No inflation celebration for us

Thanks EJ.

[jpatter666]

Re: No inflation celebration for us

Sigh.....*are* there any safe havens? I've been thinking not.

My strategy over the past year has been based on the following:
1 ) Look for investments related to money printing and peak cheap oil.
2 ) Once companies/industries are identified, sit back and wait for an appropriate opening. I may buy an initial position, but usually I wait. This market is *so* manipulated and unstable that nearly any investment opportunity will at some point crash and burn to some extent. That is the point I'm waiting for.
3 ) Be aware of taxation issues. For example, I'm wary of currently investing directly in the major oil companies, because I suspect at some point they will be hit with special "profit" taxes [of course, that may open things up for an investment point]

Gold and silver continue to do well, silver doing even better than gold (but far more volatile as we've just seen).

EJ, in the past you've been highly negative on the miners (with reason) but as we approach the mania/panic phase over the next few years, are you tempted to take a small position? I expect the well-run miners (such as they are) to go parabolic.

[bpr]

Re: No inflation celebration for us

Here's what I don't understand:

But what Volcker doesn’t understand is that asset price deflation puts the Fed in a bind. Raise interest rates to attack commodity and consumer price inflation and the FIRE Economy crashes again. Do nothing and the FIRE Economy crashes anyway as commodity and consumer price inflation wreck the bond market.

It's that bold part that's the argument against raising rates, which would lead to another crash of the FIRE economy, '08 all over again, likely another Lehman, another Bear, and another AIG. Credit markets constrict, loans are called and we have mass bankruptcies. "The abyss," they called it, when Congress tried to explain the bailout to their constituents.

I'm not sure that this, in and of itself, would be a bad thing. Politically impossible, maybe, but it may be what's needed to clear the debt albatross.

[snakela]

Re: No inflation celebration for us

bpr,

Crashing the domestic FIRE economy would be a nice thing for us savers but increasing the price of the dollar via itnerest rates in the process would make our foreign debt more expensive to repay.

I am starting to think Bernake's long-term plan may be to save our grandchildren from the foreign debt that is owed.

[karim0028]

Re: No inflation celebration for us

Here's what I don't understand:



It's that bold part that's the argument against raising rates, which would lead to another crash of the FIRE economy, '08 all over again, likely another Lehman, another Bear, and another AIG. Credit markets constrict, loans are called and we have mass bankruptcies. "The abyss," they called it, when Congress tried to explain the bailout to their constituents.

I'm not sure that this, in and of itself, would be a bad thing. Politically impossible, maybe, but it may be what's needed to clear the debt albatross.

It may currently be politically impalatable, but the markets may make it inevitable.... Govt's dont usually do squat until a crisis occurs.....

[RTQ]

Re: No inflation celebration for us

Curious that Robert Rubin made the statement in the past day or so about the bond market being possibly on the verge of crashing (higher rates on the long end). But, being he part of the FIRE economy, I always wonder about ulterior motives for such a statement (I can cannot discern what such an ulterior motive might be).

[RTQ]

Re: No inflation celebration for us

I really see the logic of using the PPI as a better (less manipulated) measure of inflation. I'm also impressed that the St Louis Federal Reserve statistical service seems to be able to produce diagrams that adjust data series for indices like PPI. As a further fine tuning of this methodology, I'm wondering if the PPI index leads by some amount the actual inflation see at retail. If so, a further refinement of the methodology could be to make a small time shift to the PPI indices. This would probably only affect the graphical results slightly and would certainly not alter the conclusion.

[zoog]

Re: No inflation celebration for us

I really see the logic of using the PPI as a better (less manipulated) measure of inflation. I'm also impressed that the St Louis Federal Reserve statistical service seems to be able to produce diagrams that adjust data series for indices like PPI. As a further fine tuning of this methodology, I'm wondering if the PPI index leads by some amount the actual inflation see at retail. If so, a further refinement of the methodology could be to make a small time shift to the PPI indices. This would probably only affect the graphical results slightly and would certainly not alter the conclusion.

There was a John Serrapere article posted here back in 2006 where he looked at PPI vs CPI, though not quite in the fashion you describe.

...For the sake of brevity, we will focus upon a novel indicator that I developed, The PPI/CPI Differential, which is closely tied to crude oil prices. Figure 3 was recently published in The Journal of Indexes. It shows a strong relationship between weaker earnings and times when The Producer Price Index (PPI, the price index of finished goods) is higher than Consumer Price Index (CPI, the price index of all items). Positive net results from PPI minus CPI over periods longer than 12-months predates weaker earnings and higher credit spreads. This predictive metric has a lead time of 12 to 24 months.

.
.
.
PPI is more often less than CPI when inflation is low. However, when inflation is high or it is about to climb significantly higher, PPI is more frequently higher than CPI. The volatility of the differential is nearly six times greater in low versus high inflation periods...

[Slimprofits]

Re: No inflation celebration for us

Curious that Robert Rubin made the statement in the past day or so about the bond market being possibly on the verge of crashing (higher rates on the long end). But, being he part of the FIRE economy, I always wonder about ulterior motives for such a statement (I can cannot discern what such an ulterior motive might be).

That was a political comment.

Just ask yourself, when was the last time Bob Rubin made a credible and correct economic prediction?

[FRED]

Re: No inflation celebration for us

That was a political comment.

Just ask yourself, when was the last time Bob Rubin made a credible and correct economic prediction?

Paulson Asked to Spurn Rubin's Inflation Indexed Debt

Sept. 2 (Bloomberg) -- Almost 12 years after then-Treasury Secretary Robert Rubin championed inflation-linked bonds as a way to lower U.S. borrowing expenses, advisers to Henry Paulson say they have cost taxpayers an extra $30 billion.

The Treasury Borrowing Advisory Committee, consisting of officials from 14 investment firms including Goldman Sachs Group Inc. and Soros Fund Management, recommends eliminating five-year Treasury Inflation-Protected Securities. At a minimum, the supply of TIPS, now $517 billion outstanding, should be reduced relative to the amount of nominal Treasuries, the committee says.

Paulson and Rubin worked together at Goldman from 1974 to 1992. In 1988, Paulson was promoted to co-head of investment banking when Rubin was vice chairman and co-chief operating officer. Rubin left the firm in January 1993 to become assistant to President Bill Clinton for economic policy. He became Treasury Secretary in 1995.

The U.S. started selling TIPS in 1997, saying the market would help Americans' retirement savings keep pace with inflation.

Rubin, now a senior counselor to Citigroup Inc. in New York, told reporters in his office in January of 1997 before the first auction that TIPS had the ``potential'' to cut borrowing costs and predicted they would be ``a big, big program someday.'' The bonds account for 11 percent of the Treasury market, up from 6.2 percent at the end of 2004.

See Future inflation fears topple TIPS - Eric Janszen

[ST]

Re: No inflation celebration for us

Sigh.....*are* there any safe havens? I've been thinking not.

Safe to say many of us here feel that the equity market should not hold up in a debt deflation scenario. EJ indicated he also still sees 7000-8000 Dow. Risky for the Fed, but frankly it would be politically convenient for them allow the unfolding, rather than step on the pedal again too quickly. I don't think Bernanke enjoyed hearing from the German Finance Minister's comments that his policy is 'clueless' The environment is now such that any and all visible inflation would produce increasingly significant & tangible backlash to the Fed.

It is remarkable that so many have hopped on the bandwagon to criticize the one entity that has a clear picture of the quality of its own balance sheets and the nations' banks. We simply do not know the risks, esp. wrt to OTC derivatives and domino effects; they might though.

My strategy in this environment is to retain some gold, lots of cash and some exposure to long dated and even some short dated S&P500 puts, and perhaps a toe in the water on long term small caps related to commodities that have some value as real businesses.

[Milton Kuo]

Re: No inflation celebration for us

It is remarkable that so many have hopped on the bandwagon to criticize the one entity that has a clear picture of the quality of its own balance sheets and the nations' banks. We simply do not know the risks, esp. wrt to OTC derivatives and domino effects; they might though.

The criticism of the Federal Reserve and its officers would not be so sharp had they not been so utterly incompetent and derelict in performing their duties over the past decades. Over the course of the housing bubble, they've denied the existence of a housing bubble, failed to take action against rampant corruption in mortgage underwriting despite repeated warnings, mistakenly claimed that the subprime crisis was contained, and now are doing everything they can to save insolvent institutions that should be liquidated.

In that context, does the Federal Reserve really know what's going on in the balance sheets of the TBTF banks? They most certainly did not when the TBTF suffered a near-death experience in 2008. It's not so much Fed-bashing so much as the Federal Reserve has very little credibility in its competency or honesty at this point.

A start for regaining some measure of credibility and respectability would be stern regulation, forcing an honest accounting of the TBTFs, and putting into receivership those institutions who are insolvent rather than giving these institutions free money to "earn" their way to a healthy balance sheet.

Based upon what I understand the TBTFs are "earning" risk-free thanks to the Federal Reserve's policies, I'm not convinced that the Fed's current giveaway to the TBTFs is going to solve anything before time runs out for the U.S. I seem to recall reading that when Merrill Lynch failed, its write-downs erased twenty years of profits. It seems doubtful that the TBTFs will fix their balance sheets within ten years much less two years, which is what the current iTulip projection is for the next recession (show time/go time?).

[photon555]

Re: No inflation celebration for us

So we can expect inflation, along with falling wages. The Fed will not be able continue printing money through QE, thus the Fedgov will not be able to continue paying "entitlements" and social obligations. Those groups are going to get very restless indeed. Will we see price controls, and if so, when? This administration no doubt believes it can do price controls "right", and prevent shortages from developing. This whole situation reminds me of the movie "Idiocracy", but it won't take 500 years.

[mmr]

Re: No inflation celebration for us

Contrary to the Fed's opinion, it certainly doesn't appear that "longer-term inflation expectations have remained stable", and the end of the just-in-time inventory model (if that happens broadly) could make a bad inflation situation much worse...

Companies Stock Up as Commodities Prices Rise

Companies contending with rising commodity prices are stockpiling rubber tires, cotton clothing and other goods, a maneuver that is aimed at insulating them from inflation but also could contribute to it.

Spice-maker McCormick & Co. stocked up on some ingredients and Monro Muffler Brake Inc. bought extra tires and motor oil, assuming prices of those goods will keep rising. Anton Sport, a small athletic-wear wholesaler in Tempe, Ariz., amped up its fabric purchases to avoid higher prices.

These pre-emptive purchases are a fraction of overall business activity, but the trend is being watched by economists and business executives. The stockpiling comes at a pivotal moment for the global economy, as central bankers scramble to judge the impact of raw-materials price increases and figure out whether or when to raise interest rates.

Purchases made more because of perceived inflationary pressures than a response to demand are important because they signal that inflation expectations are climbing. Economists often focus on inflation expectations, because they can spur people to speed up their purchases, in turn driving prices higher.

"The price increase then becomes a self-fulfilling prophecy," said Zach Pandl, an economist at Nomura Securities. Once the cycle ends, prices can collapse, he said.
The hardest part is pinpointing when this cycle begins and figuring out when to step in to quell it.

John Anton, Anton Sport's founder, saw the price of cotton shooting up, and decided to act. Last month, when his T-shirt suppliers warned about the fourth price rise in six months, he borrowed $300,000 through his home-equity line of credit and bought more than a year's supply. Mr. Anton typically has about 30 boxes of shirts on hand at one time, but now has more than 2,500.

"It just kind of clicked that I can borrow at 2.45%, and if cotton is going to go up between 10% and 12%, why wouldn't I do this?" Mr. Anton said. Cotton prices rose 92% last year, and are up 22% this year.

Mr. Anton anticipates another increase in March. If many other companies make similar moves, it could present a conundrum for the Federal Reserve. The Fed will need to figure out whether any increased buying is meant to meet rising consumer demand or whether it is an effort to beat inflation.

"Only the buyers of the inventory themselves know for real what's going on," Mr. Pandl said. "It does make the Fed's calculation difficult."

The Federal Reserve's policy-making Federal Open Market Committee nodded to rising commodity prices in its latest statement, issued last week, but also played down concerns, saying that "longer-term inflation expectations have remained stable."

...

Monro Muffler, a Rochester, N.Y., company that operates nearly 800 stores in 19 states, moved up purchases as well, mostly to get ahead of cost increases, according to company officials.

Total inventories were up 11% from March to December, climbing to $95.6 million from $85.8 million, and about two-thirds of that increase was due to advanced buying, said John Van Heel, Monro's president.

"Buying ahead of cost increases is a normal part of our management of the business," said Mr. Van Heel, one strategy he said Monro used more in 2010 than in the prior year.
Monro also was able to make the purchases in part because it had available credit and the warehouse space to store extra tires, said Catherine D'Amico, the company's chief financial officer. Monro also filled the oil tanks at its shops to capacity.

The advance purchases are striking because there are a variety of hurdles to bulking up supplies, including generally tight credit, concern about the impact of high unemployment on consumers, and a widespread preference for just-in-time deliveries.

To be sure, data at the national level suggest that many manufacturers still are trying to get back to normal inventory levels after paring back during the financial crisis.
Manufacturers' inventories have risen for the past seven months through January, according to the Institute for Supply Management. But Norbert Ore, who runs the institute's manufacturing survey, said that is mostly companies restocking to meet rising demand.

Nonetheless, the January survey showed that prices for roughly two dozen commodities, from aluminum to sugar, were rising, while none showed signs of falling. Two years ago, just four were getting more expensive, and 15 were falling.

Mr. Anton, the T-shirt seller, bought mountains of shirts after receiving letters in January warning of an imminent price increase. One supplier's letter, a copy of which was reviewed by The Wall Street Journal, urged customers to "wrap up most of your pending orders and buy at the best possible prices."

Mr. Anton had to pay more to insure his cache and install new security. But he said the purchase gives Anton Sport, which generated $6 million in sales last year selling to schools and businesses, a competitive edge.

"What's exciting here is we can now go to somebody like McDonald's and say: 'We have a price that's going to beat everyone around,' " Mr. Anton said. "At this point, I don't know if I'm the smartest guy in the room or the dumbest. But I can't see prices returning to where they were anytime in the near future."