(By Chris Martenson) Ideological deflationists and inflationists alike find themselves both facing the same problem. The former still carry the torch for a vicious deflationary juggernaut sure to overpower the actions of the mightiest central banks on the planet. The latter keep expecting not merely a strong inflation but a breakout of hyperinflation.
Neither has occurred, and the question is, why not?
The answer is a 'cold' inflation, marked by a steady loss of purchasing power that has progressed through Western economies, not merely over the past few years but over the past decade. Moreover, perhaps it's also the case that complacency in the face of empirical data (heavily-manipulated, many would argue), support has grown up around ongoing "benign" inflation.
If so, Western economies face an unpriced risk now, not from spiraling deflation, nor hyperinflation, but rather from the breakout of a (merely) strong inflation.
Surely, this is an outcome that sovereign bond markets and stock markets are completely unprepared for. Indeed, by continually framing the inflation vs. deflation debate in extreme terms, market participants have created a blind spot: the risk of a conventional, but 'hot,' inflation.
The Fears of 2008
In the spring of 2008, on the back of the Fed's easing program that began the previous summer, many global commodities were running to all-time highs. Agricultural commodities were in the headlines, and the high price of corn had caused riots in Mexico the year before. In many respects, the 2007-2008 period prefigured some of the food price pressures that would help drive the Arab Spring three years later, in 2011. Of course, the bulk of the headlines went to the master commodity, oil, which flirted with $90 twice before breaking above the $100 barrier.
Market sentiment understandably turned to inflation. Indeed, during a few Fed meetings, Jeffrey Lacker of the Richmond Fed actually called for rate hikes. And the yield on the 10-year Treasury, which declined into a low of 3.88% towards the end of March 2008, actually rose again to 4.32% over three months into the end of Q2, 2008. The Economist magazine, always ready to provide the cover story, produced a rather memorable offering to the inflation angst that spring.
From its May 2008 story, Inflation's Back:
"Ronald Reagan once described inflation as being "as violent as a mugger, as frightening as an armed robber and as deadly as a hit-man." Until recently, central bankers thought that this thug had been locked up for life. Thanks to sound monetary policies, inflation worldwide had stayed low in recent years. But the mugger is back on the prowl."
Here is the cover graphic:
Of course, we know how this particular story ended in 2008: badly. But not in the cloud of inflationary dust that the Economist magazine and hawkish members of the Fed envisioned. No, it ended "badly" with the most severe unleashing of asset deflation the United States had seen since the Great Depression, along with trillions of fresh credit dollars provided by the Federal Reserve needed just to stabilize the system during the long aftershock.
And the Deflationists Still Hold Some Cards
Four years later, the deflationists are still holding a few cards. True, actual recorded deflation was very brief and lasted only 6-9 months immediately after the crisis. And the deflationary spiral many predicted never did occur.