Britain faces deflation !!!

dopester

!!!!!!? wrote: »

It seems that with modern fiscal policy they can much more easily flood the market with liquidity than they could in the 1930s, who knows what the results are going to be when all that new money comes home to roost?

Liquidity = debt, and there is a limit to the appetite for buying government debt, if a government is seen to be pushing its creditworthiness to the edge.

Government debt = solid investment in deflation provided government honours its payments.

Also all the easy money that Labour would like to "restart" the boom, or cushion the downturn, is not going to happen. The peak has been reached and the downturn is already taking out business after business. Businesses that could only survive in boom conditions. Unemployment, pay-cuts, and consumer retrenchment comes with that.

baby_boomer

Very thought provoking, dopester. Thanks for the above, but I'm still in doubt.

For instance you quote Rees Mogg a lot. I read him regularly and he has been warning of inflation AFAIK. For instance this from the Daily Reckoning, admittedly Jan08.

"The great democracies of the West will find it difficult to make the sacrifices necessary to deal with the growing shortage of fundamental sources of energy, including oil, gas and uranium. The excessive levels of debt are likely at some point to lead to inflation – which wipes out the real value of debt."

dopester

baby_boomer wrote: »

Very thought provoking, dopester. Thanks for the above, but I'm still in doubt.

For instance you quote Rees Mogg a lot. I read him regularly and he has been warning of inflation AFAIK. For instance this from the Daily Reckoning, admittedly Jan08.

"The great democracies of the West will find it difficult to make the sacrifices necessary to deal with the growing shortage of fundamental sources of energy, including oil, gas and uranium. The excessive levels of debt are likely at some point to lead to inflation – which wipes out the real value of debt."

It was from a book which was a collaborative effort between him and James Dale Davidson (first edition 92, second edition 94).

I don't doubt you've read Rees-Mogg writing more recently about fears of inflation. I'd argue they are both intelligent to all the dangers involved and understand the complexities - and are mindful of political and megapolitical issues. Both authors weren't in full agreement with each other to the way it would unfold back in 92/94 but understood all the key issues either way.

That is why I don't rule out others views on projecting future events. The system is still subject to taking political actions which seem to offer a fix but which make things worse.

We expect and hope that the authorities will submit to the dictates of the market, and take steps to restore the economy and the government to solvency. This would mean deflation - letting the bad debt be liquidated.

This is written optimistically, on the assumption that the American constitutional system will prove stable enough to hold together, in spite of the adverse megapolitical trends. Deflation will prevail over inflation. Creditors will prevail over debtors. Financial assets will be selectively repudiated through default, not obliterated by inflation.

This optimistic reading does not depend upon creditors being more numerous than debtors, but on markets being more powerful than governments. The power of the markets, however, is a long-run power, a power that asserts itself over decades.

The view that the power of the markets will prevail over the welfare state's policy of socializing the losses is a guess based on the cycles of history, current megapolitical conditions, and the magnitude of debts.

A concerted attempt by political authorities to override market disciplines and write down debt through inflation would lead, in the extreme, to the disappearance of credit altogether - an outcome that would doom a modern political economy.

The logic of this is clear. Of course, one cannot be too sure of applying logic to politics. The fact that a policy could be destructive does not preclude it from happening. And it is also true that destruction can take different forms.

Lord Rees-Mogg leans more to the view that governments will press blindly ahead with inflation, in spite of the destruction that would involve. James Dale Davidson believes that the costs of ruthless inflation will be higher and more obvious early in the process, thus short circuiting the reflation. But those are both weightings of probabilities divorced from the knowledge of the actual details of the immediate market setting in which the decisions will be made.

Political authorities will surely attempt to lighten debt loads by depreciating the value of money. But the market will understand this even better than the politicians. A hunter with a visible snare catches few rabbits. Creditors will seek to stay one step ahead of the authorities, to avoid being tagged with the losses through inflation or currency depreciation.

The lesson of September 1992 is a re-affirmation of a central theme: markets are more powerful than governments. The European Exchange Rate Mechanism cracked apart because the Bank Of England was no match for George Soros. Even with tens of billions of Deutsch marks to spend defending an artificially high value of the pound, the British government was obliged by the market to beat a humiliating retreat. Given similar circumstances, it would happen again.

The major economic drama will be the struggle between the market and government over the liquidation of debt. Political authorities will prefer to wipe away debt surreptitiously through inflation. But to inflate away bad debts also means inflating away good credits.

Market participants will seek to preserve the value of their assets denominated in money. To the extent that they succeed, they will make it harder to repay excessive debt in cheap money, and thus make the system more vulnerable to overt default and deflation.

As monetary policy is loosened, in increasingly desperate efforts to reliquify the economy, the market may force a deflationary response. Inflationary depression would wipe out the financial economy, and probably lead to the overthrow of the government. In effect, the capital value of the Constitution would tumble. This would expose society to the full measure of destabilisation implied by the present power equation of the world. The megapolitics of devolution could take hold, threatening to make the United States a Northern Hemisphere, balkanised version of Argentina.

Deflationary depression would write down the value of the tangible assets that are the collateral for many loans in the banking system, but it would increase the value of sound financial assets, including the value of government debt. Deflationary depression would expose social conflicts papered over by welfare state spending.

You can expect additional currency crises and worse. Governments facing the need to finance massive structural deficits due to the slowdown in economic activity may find that the markets can set the price of funding high enough to offset any stimulative gains from inflation. If so, there will be no alternative to direct debt liquidation, and the second, deeper stage of depression.

Watch bond prices carefully. There is a limit to everything, including the good credit of governments. When theirs is exhausted, even governments of the richest industrial countries will face the dilemma Sweden answered with 500 percent interest rates and deep cuts in government spending. When it appears that authorities are most determined to inflate depression away that very perception could put the economy on the verge of again slipping into the deflationary vortex.

Deflation and hyperinflation are not remote polar opposites, but the male and female of the same species. You should prepare yourself for either outcome, which means remaining alert to the dangers of both.

Either form of depression would greatly curtail the availability of credit, send the real demand for commodities tumbling, and depress living standards in real terms. The danger of deflation, of course, requires the greater thought and preparation, because it represents a reversal of the trend.

-William Rees-Mogg & James Dale Davidson (1994)

kennyboy66_2

Dopestar, rather than endlessly quote from William Rees Mogg's book, would it be possible to actually find some statistics that point to the fact that the money supply increased between 1929 and 1933 - every other source from JK Galbraith to Milton Freidmen states that it contracted substantially.
The empirical evidence is shown in The Monetary History of the USA (Friedman) but I can't find a link.

Hoover in March 1930 said that the worst of the unemployment would be over within 60 days, then in May 1930 said "we have now passed the worst"

Rather than take contemporay quotes many of which in hindsight were as wrong as Hoover's quotes, why not look at what actually happened.

1) Almost half of the banks that existed in 1929 subsequently failed. The Fed did not perform it role as lender of last resort. It is no surprise that people took to saving under the mattress.

2) There was an obsession with inflation (yes during a deflation), the US increased its gold reserves until 1932.

3) After a tax decrease in late 1929, taxes were increased & spending cut to ensure a balanced budget.

Ultimately the economy was unbalanced in the years leading up to 1929 and the stock market crash was the trigger for recession.
We have a good idea what policies help move a recession to a depression.
Is it worth repeating the errors?

dopester

kennyboy66 wrote: »

Dopestar, rather than endlessly quote from William Rees Mogg's book, would it be possible to actually find some statistics that point to the fact that the money supply increased between 1929 and 1933 - every other source from JK Galbraith to Milton Freidmen states that it contracted substantially.
The empirical evidence is shown in The Monetary History of the USA (Friedman) but I can't find a link.

Hoover in March 1930 said that the worst of the unemployment would be over within 60 days, then in May 1930 said "we have now passed the worst"

Rather than take contemporay quotes many of which in hindsight were as wrong as Hoover's quotes, why not look at what actually happened.

1) Almost half of the banks that existed in 1929 subsequently failed. The Fed did not perform it role as lender of last resort. It is no surprise that people took to saving under the mattress.

2) There was an obsession with inflation (yes during a deflation), the US increased its gold reserves until 1932.

3) After a tax decrease in late 1929, taxes were increased & spending cut to ensure a balanced budget.

Ultimately the economy was unbalanced in the years leading up to 1929 and the stock market crash was the trigger for recession.
We have a good idea what policies help move a recession to a depression.
Is it worth repeating the errors?

I'll try and provide other sources for that tomorrow.

And the quotes are because Rees-Mogg and Dale Davidson's book of 1994 are just so insightful is all - useful to me, hopefully you and all others.

What bugs me a lot on this forum is all the "no one has a crystal ball" rubbish. As though clear educated projections from intelligent, learned minds of education and reading and wisdom, who understand how the system works - are blind to making assessments of the future.

The crystal ball fools are too absorbed with X-factor and EastEnders and impose their own closed minds on others.

Don't put too much blame on Hoover for whatever he said. I think history judges him a bit too sharply, and keep in mind there were reasons for some of the things he said publicly - (not least confidence in consumer led economies).

Sustaining the Morale of the People

The same medieval mentality that outlawed short-selling when it was known as "forestalling" will be back at work attacking the structure of the free auction markets when the slump becomes unmistakable.

We had hints of this with the work of the Brady Commission after the 1987 crash. Its investigation differed from the parliamentary search for scapegoats in 1720 only in that Brady had a new high-tech villain: the computer. All the computer does is make calculations quickly - just what people would do themselves if they had greater computational capabilities. Brady's recommendations for restricting markets will no doubt be back in force as the slump deepens.

The search for scapegoats is in many respects silly. But it unintentionally makes a point that you should take to heart. When the news is bad and apt to get worse you cannot draw your bearings about the economy or the market from channels of mass communications.

Can you imagine a major newspaper (much less the leaders of the country) saying that stocks fell because objective conditions no longer supported their further rise? Has it ever been recognised politically that a market has topped out? Or that an economy needed to go through a painful slump to facilitate a transition and shake out dead wood?

In every case which we know, politicians have continued to pretend that all was well long after events provided impressive evidence to the contrary. This is a game that President Hoover, in retirement, described as "sustaining the morale of the people."

In spite of these often well-intended gestures, the economy will shift into a contraction that government will be powerless to abate. Asset prices, especially real estate and stocks, will tumble. Credit will contract. Governments hungry for reelection will panic as the asset deflation gathers force.

Their first instinct will be an attempt to counter the contraction with easy money. The Federal Reserve and other central banks, especially the Bank of Japan, could buy up the bad debts of insolvent institutions, like big banks and industrial corporations.

In the United States the Fed could buy Los Angeles overdue notes, or pump money into New York City's till to forestall budget cuts. In short, the socialization of losses could be taken to greater extremes. The bad debts of all large borrowers could be added to the government's balance sheet. Central banks could essentially become national pawn shops ~ economy-wide holding companies of insolvent institutions. They could end up owning many banks, perhaps some insurance companies, and a great deal of real estate.

William Rees-Mogg & James Dale Davidson (1994)

posh*spice

dopester wrote: »

What bugs me a lot on this forum is all the "no one has a crystal ball" rubbish. As though clear educated projections from intelligent, learned minds of education and reading and wisdom, who understand how the system works - are blind to making assessments of the future. .

TBH the difficulty I have with your posts is that you seem to have little regard for the fact that real people will be hurt by what you suggest should happen (sorry if this is not true) to our economies. To use the analogy of the oil slick spill, it's as if you just want to stand around doing nothing rather than try and clear it up?We're all doomed, there is nothing we can do? Of course there are things that can be done. We make mistakes, we fix them, we move on...

baby_boomer

Dopester is not the government or the BBC. I don't mind if he has no heart. I just want to know if he's on the right track or not.

posh*spice

baby_boomer wrote: »

Dopester is not the government or the BBC. I don't mind if he has no heart. I just want to know if he's on the right track or not.

I mind if someone has a heart or not, since it effects their view of what should or will happen. It does not matter what happens to markets - it's people that count IMHO.
For example, if commodity prices rise massively the markets are quite happy to let that occur - even if that means people starve or freeze to death. Of course, politicians can stand by and let that happen but IMHO that would not be right. Similarly, if we let the credit crisis run it's course as Dopester seems to suggest people will get hurt, so why would someone do that? Why would a politician deliberately stand around and watch our economy be trashed and not try to do something?

If our economies have become starved of money then governments must act to address this problem. The obvious way is through reductions in interest rates and more expenditure on public sector projects - e.g.renewable energy , public transport, schools, hospital projects). This type of Keynsian spending provides money supply backed with something worthwhile. To me standing around and letting the markets sort themselves out is, frankly, not an option.

baby_boomer

This is certainly the way Gordon would like to go if it's at all possible. So I am still deciding whether he will be as constrained as dopester suggests, or whether his natural instincts, allied to political opportunism will unleash inflation.

But we're not debating right or wrong. Just what will happen.

posh*spice

baby_boomer wrote: »

This is certainly the way Gordon would like to go if it's at all possible. So I am still deciding whether he will be as constrained as dopester suggests, or whether his natural instincts, allied to political opportunism will unleash inflation.

But we're not debating right or wrong. Just what will happen.

I think it's panning out alot better than expected. Many commentators expected the dollar and sterling to have collapsed by now and this has not happened. The government can easily afford to spend some money to get us through this dip. If I have a worry - it's what happens when economies all start to grow again and we are back to rising oil prices again " Peak Oil - The Dress Rehearsal" was a pretty horrible experience IMHO.