The 2011 Inflation Spike

The Federal Reserve will not be raising interest rates for quite some time. When inflation takes off, I believe they will let it go for a while.

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During the Cold War, we were taught to believe that centrally-planned economies like Communist Russia or China were bad. The Cold War economy in Communist countries was certainly awful, and the Great Leap Forward did cause millions of people to die a preventable death of starvation. The toll a centrally-planned economy takes on its citizens is enormous.

We like to think our economic system is superior here in capitalist America. Capitalism is certainly superior to Communism at delivering goods and services to the populace, and it is unlikely that millions of people will die of starvation during the Great Recession; however, we have our own version of central planning with the Federal Reserve. We do not have a free market, we just have a lesser degree of central planning and regulation than Communism.

We are starting to look more Communist every day:

  • Federal Reserve is holding interest rates far below free-market levels.
  • The US Government through the GSEs and FHA are also holding down mortgage interest rates.
  • The US Government is providing tax credits to buyers to stimulate demand.
  • Private lending outside of Government insured entities has declined dramatically.

Where is the free market? Don’t expect to see its return any time soon.

US Federal Reserve 1913-Present

The Federal Reserve in the US was formed in 1913. It was thought that central control of the currency would provide greater stability to our economic system and soften the extremes of the boom and bust periods the United States endured in the 19th century. The Federal Reserve didn’t prevent the Great Depression; some would argue it didn’t even mitigate the effects and may have even made it worse.

There is one thing the Federal Reserve has accomplished that is not in dispute; since 1913 the Federal Reserve has inflated away about 95% of the value of our currency as evidenced by the Consumer Price Index. Inflation is the theft of savings; it is a stealth tax on everyone. When money loses buying power, wealth loses value.

Consumer Price Index 1913-2009

Price and Wage Inflation

When the Government measures inflation, they use the Consumer Price Index (CPI). The CPI measures the change in price of a representative basket of goods that is supposed to reflect the general level of price change in the whole economy (it isn’t very accurate). It is not measuring money supply (another measure of inflation), economic growth or anything else; the CPI measures changes in consumer prices. So what causes prices to go up?

Prices can rise for many reasons, but there are two I want to examine closely today; currency devaluation and wage increases. If the currency declines in value, foreign goods become more expensive to import, and prices rise. If wages go up, people have more money to bid on goods and services, and prices rise. A wage and price spiral coupled with a devaluation of its currency is a dangerous economic trap. Argentina, Brazil, Chile, and Mexico experienced these conditions in the 1980s, and Argentina experienced another in 1998-2002.

Devaluation of currency has the biggest impact on a population’s standard of living. A decline in foreign buying power means fewer imported goods for consumption. Without increases in wages, people learn to live with less. This is the road we are heading down.


When the credit crunch hit in August 2007, the Federal Reserve responded by lowering the interest rate from 4.75% to 0%. When interest rates first went down, so did the value of our currency. This caused a brief episode of inflation followed by the ravages of deflation due to the losses in the lending industry from The Great Housing Bubble.

The primary cause of deflatioin is the destruction of money through bank losses. When banks lose money, it ceases to exist. Fewer dollars chasing the same amount of goods and services makes for an increase in buying power; deflation. Greater buying power sounds good, but the spectre of a deflationary spiral like the one that caused the Great Depression is very real.

Consumer Price Index September 2004 to August 2009

What Would Ben Do?

Ben Bernanke has written a number of scholarly papers in his life as an academic. He is drawing on this research to weather
this storm in our financial markets. He will likely keep the Federal
Funds Rate as low as he can for as long as he can in order to avoid repeating the mistake policymakers made back in 1937. The Federal Reserve will not raise interest rates in the face of increasing inflation — at least for a while.

If we assume the Federal Reserve will allow inflation to take off — something which it is not supposed to do — then how bad will they let inflation get, and why would they do that?

The first argument the Federal Reserve will make is that the CPI is “behind.” In other words, the deflation we experienced has left the CPI at too low a value. We need inflation to revive the economy with inflation just like we did in 1933. I think this argument is specious, but the Federal Reserve will make it anyway. It is unlikely the FED will be afraid of inflation until well after the crisis passes.

Projected Consumer Price Index 2007-2011

To “catch up” with what inflation should be — at least in the eyes of the Federal Reserve — how high might inflation get?

Projected Inflation Rate 2009-2014

The actual rate of inflation at the peak is anyone’s guess. The Federal Reserve will allow it to go up until long-term inflation expectations begin to rise significantly or until the member banks of the Federal Reserve are solvent again. Solvency should take until the first or second quarter of 2010; if banks earn $250,000,000,000 per quarter, it will take them a year to make the $1,000,000,000,000 is is speculated they lost in total.

Making Up for Deflation

I am projecting a 12% rate of inflation as measured by the CPI in the summer of 2011. It will not peak until the Federal Reserve raised the Federal Funds Rate, and I as I outlined above, that is not going to happen soon. This will lead us to the second argument I believe the Federal Reserve will make; we need to “make up” for deflation.

Since we were behind the desired rate of inflation for so long, the Federal Reserve will justify the high inflation rate by claiming we need to get back to normal levels. This argument is also ridiculous, but it is what I believe the Federal Reserve will sell to us.

The result will be medium-term price inflation.

Projected Consumer Price Index 2007-2014

Long-Term Inflation Expectations

The Federal Reserve does not want to allow the world to believe that they have lost control of inflation again. If long-term inflation expectations become elevated, interest rates will go sky high just like they did in the 1970s. Unfortunately, when Timothy Geithner went to China to make the case that we will not inflate away our debts, the Chinese actually laughed at him. Can you imagine that? A US official has to tell a lie so transparent that the audience actually laughs?

Homedebtors will like inflation because the value of the currency they will be repaying has declined in value. Lenders hate inflation, and so do the wealthy. The Federal Reserve will do everything in its power to control long-term inflation expectations.

Impact of Medium-Term Inflation Spike

High inflation will burn off the mountains of bad debt we created during the Great Housing Bubble. We have a problem of insolvency. The only ways to solve it are (1) to increase people’s ability to pay, or (2) decrease the value of the money repaid. Since wages are not going up in the Great Recession, the value of currency must decline for the insolvency problem to be solved.

The net effect will be a lowering of our standard of living. When inflation is running at 8% and you get a 3% raise at work, your buying power has actually decreased by 5%. It looks like you are getting ahead because your pay increased, but in reality, you are falling behind and your standard of living is declining. The slow erosion of US buying power will be transferred to China as the country develops and local wages move higher there.

Since home prices are linked to wages, high inflation as measured by the CPI will not cause home prices to rise.

Real Estate is not necessarily an Inflation Hedge

The old adage about real estate being a hedge against inflation needs to be refined. Real estate as an asset class is a great hedge against wage inflation but not necessarily against price inflation. Since price inflation can be caused by wage inflation, people do not see that there is a distinction between the two. It is possible to have price inflation without wage inflation — which is what we will see from 2011-2014. When there is price inflation without wage inflation, our standard of living declines.

Government Conspiracy

I find most conspiracy theories to be crazy, but there are times when our Government lies to us, and we feel good about it. Every national recession is greeted with denial until the crisis is past. As a people, we like being lied to; if we didn’t, we would stop electing politicians we know to be liars. There must be a greater good that comes from the nonsense.

For instance, the Warren Commission reported that John F. Kennedy was assassinated by a lone gunman, Lee Harvey Oswald. Many people believe this is not true. Why would the Government lie? Well, let’s assume that JFK was assassinated by a Cuban-led hit squad, and that we learned the truth almost immediately. If the government lets this information out, we would probably have invaded Cuba (rather then embargoing them for 50 years). In the wake of the Cuban Missile Crisis, this would have started World War III. Do you tell the American public a flimsy lie about a President’s death? or do you start WWIII?

When we look back on the actions of the Government and the Federal Reserve in their handling of this crisis — which has either been necessary lies or gross incompetence — some will conclude the lies told by our officials was necessary and appropriate. The general public cannot handle the Truth.

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65 thoughts on “The 2011 Inflation Spike

    1. Chuck Ponzi

      Only after disaster can we be resurrected.

      – Tyler Durden ‘Fight Club’

      Everything I needed to know about life, I learned from Fight Club.

      Anyway, respectfully, it’s entirely possible that The Federal Reserve has lost control of the currency, and the present consumer induced deflationary spiral just has to play itself out before we meaningfully resurrect spending. It’s possible that they’re pushing on a string.

      Read Mish for an alternative view; bank reserves are huge, and people just aren’t borrowing. In our fractional lending system, the only way you create money is by creating more debt. I don’t think you’ll see significant more debt for many years unless interest rates are EVEN LOWER. You gotta induce people to borrow, right? Can’t do that in a period with high job losses, generally.

      The 70’s was different because we had a wage-price spiral. We now have the opposite in place.

      Chuck Ponzi

    1. Art Student in Atlanta

      Remember, there was an eventual snap back to a strong dollar. Our world is full of dichotomies.

      I fear that the people at the fed do not realize that the housing bubble was a system that exchanged real value and assets for a worthless promise of security. When the promise that “home values always go up” failed a lot of real wealth was lost as well. They cannot replace 1 trillion in valuable assets with worthless paper promises. Nothing of any real worth and value is being created. In the process the fed will destroy this country’s economic reputation which actually has a value.

      I believe that this system as it is currently structured has no future. The fed will fail, it is only a matter of time.

        1. Art Student in Atlanta

          I actually studied Economics first, it is still a hobby of mine. It lacks the ability to show a clear direction or what is possible to the public. Art can give direction by showing people what can exist. This is the weakness of economic theory. Economists can see what is possible, but they often has difficulty conveying it.

          Keynes’s ideas and theories have fallen on their face almost every single time. Stagflation was one of the cases that proved this. Under Keynesian theories, wage inflation and price inflation were connected, so it is impossible to have stagnant economic growth and inflation at the same time along with constant unemployment. We had stratospheric interest rates and still had high inflation.

          Thanks for the comment. I am a walking contradiction.

          1. E

            Sounds like me but in reverse.

            I started as an art major in the 80’s, but after visiting the Pasadena Art Center College of Design, I realized that I was a really shitty artist.

            So…I got my degree in Economics.


  1. winstongator

    Devaluation of the dollar would actually help. The difference between the US and nearly every other nation is that we borrow in our own currency. We borrow $1, we pay back $1. If the peso is devalued by 50%, and Mexico borrowed $1-10pesos, to pay back $1, they pay 20pesos. A devauled doller would stem the loss of manufacturing jobs.

    1. Art Student in Atlanta

      I really doubt that. It will only serve to destroy the wealth we have left as we continue to force ourselves into isolation.

      The manufacturing sector is undergoing the same change that farming has endured over the last several decades. It is becoming more and more automated in low cost countries around the world. Perhaps the wage costs can be reduced, but you still have to face the other issues like automation. Automation will continue to reduce the size of our workforce. Once a product can be produced quickly and cheaply in the country it is intended for with little or no labor cost, then we will have factories that produce with no job gains.

      We will need a different type of system to evaluate wealth and value. The manufacturing sector as we know it is vanishing. It happened to us first. We need to come up with a solution to it first. Investing more money into housing bubbles or trying to revive it by making our country as poor as the countries we outsourced to is very flawed reasoning.

      We are entering an age where there will likely be no working class. In a way all distinctions based on the concept of “class” may disappear, simply because the world is so vast. We need to seek out and create new opportunities. Now is the time to explore and imagine.

      1. winstongator

        There are still things that are manufactured, with human involvement that are hurt by the intentionally devalued Chinese yuan. The Chinese gov’t can squak about our borrowing, but they have the right to at least first stop buying our bonds, and even to sell some of their massive holdings.

        A nation cannot infinitely run current account deficits, but we’re trying. The yuan-dollar currency revaluation & eventual float is one of the most significant economic problems of the next 10 years.

      2. LongTime Reader

        Excellent observation!

        The working class is disappearing in front of our eyes. We are seeing a more educated class. There are schools, advance degrees, students, etc. Going to a university now doesn’t necessarily increase your wages.

        1. Driving to Irvine

          “Going to a university now doesn’t necessarily increase your wages.”

          That’s kind of broad. I’d agree that going to University and getting certain types of degrees no longer increase your wages. Inversely, some degrees pay off more then ever.

          Say hello to Revenge of the Nerds.

  2. winstongator

    I disagree with your inflation angle. The deflation we are seeing today is a result of massive asset inflation & monetary expansion, by way of banks. People talk about monetary base, the printing of money, but that is a small, and historically decreasing part of the money supply.
    M3 is a measure of the money supply the fed conveniently stopped publishing. It was where the huge growth at the peak of the bubble was taking place.

    To talk about future inflation, one should first examine the inflation from 2000-today.

    1. HydroCabron

      The United States suffered sustained deflation in the early thirties, but I have not been able to understand whether the example of those years tells us much about today.

      In favor of less deflation today is that our money is truly fiat, with no official tie to any precious metal or other commodity.

      There seem to be more arguments, however, in favor of deflation this time around. First, though our currency is fiat, it is tied through exchange rates to the fiat currencies of all the other nations of the world, and none of their currencies look particularly strong by comparison. Second is the lack of desire on the part of banks to lend any money the fed pushes their way: quite sensibly, the banks don’t see many credit-worthy borrowers at this point, and, while this problem of pushing on a string occurred in the 1930s, there were fewer banks intent on sitting on cash back then, because the economy was much smaller, with much less cash to begin with. Finally, going beyond the matter of shrinking bank reserves, declining credit limits, and all their nasty multiplier effects on the money supply, is the sheer amount of derivatives, which, while not really liquid money, were used as security and counted as assets for the purpose of lending out money, which means we have a money supply so gargantuan that the potential deflationary consequences are far beyond the worst deflation of the 1930s.

      I suspect that the printers will finally prevail, in a final gasp of inflation which destroys our currency, but they may be powerless against an initial multi-year collapse in asset prices: if all banks are hemorrhaging reserves faster than one can possibly monetize treasury debt, then how can those banks be expected to loan money to a population without secure jobs?

      1. joesez

        Japan’s had -2.20% inflation since 2000 so if they’re or model, we’re not going to see home prices recover with inflation.

        We need gv’t borrowing to stimulate demand or we’ll risk deflation. That’s the 30’s lesson.

  3. Lee in Irvine

    “I find most conspiracy theories to be crazy, but there are times when our Government lies to us”

    The old Plunge Protection Team (PPT) theories of govts controlling and protecting markets are no longer theories. These cockroaches (the govt) are doing everything they possibly can to prevent a further correction in asset prices (medicine) by throwing more borrowed money (poison) at the unsustainable problem. The govt plan (though they wont tell you this) is to reignite inflation to solve our problems … something the Japanese have been trying to do for 20 years.

    Is is really fair for this generation of AIR breathers to live beyond their means, borrowing massive amounts of money from foreign govts, deferring our problems to future generations. Is this fair?

  4. Spam Supper

    Hmmm, just as I suspected. This blog has jumped the shark. Yes, I agree that the housing decline will go on for a few more years. But the constant doomsdaying on this site gets old after awhile. I guess I’m just not feeling the schadenfreude anymore.

    I doubt that I can trust housing advice from someone that buys into the whole JFK conspiracy.

    1. Lee in Irvine

      Hold on a moment … weren’t you part of the crowd who said there was no such thing as a housing/asset bubble? Yes … yes you were!

      When the inevitable happens, we’ll (“doomsdayers”) look back at this time, and we’ll unilaterally say, none of this shit was necessary.

      1. Spam Supper

        I was never part of that crowd. I bought in 1998 and held tight. My house is nearly paid off. This is the second post that I’ve ever put on this blog after lurking around for years. So don’t make stuff up.

        My first post was a couple of months back to say that I think people will go back to their old habits, and that the bubble will repeat itself all over again.

        So I’ve never been a part of that crowd. Like I said, I’ve always thought prices would decline, and in California, will continue to decline. I just don’t buy into JFK conspiracy theories, and hope the housing advice on this blog isn’t made up of the same mumble jumble as the JFK nonsense.

    2. Perspective

      Forecasting interest rates is ripe with peril. I think IR and nearly every regular commenter here will admit that in 2007 they were of the strong opinion that the Fed could not possibly hold Treasuries (and therefore mortgage rates) as low as they have.

      We are now entering 2010 with a 30-year fixed mortgage rate near 5%!

      I think we can say with near certainty that they won’t go lower; which leads to the likelihood that the only direction is up…

      1. Chuck Ponzi

        I can’t say that. Japan has mortgage interest rates in the 1-2% range.

        It’s entirely possible that we’ll see lower rates. But, only if they have no impact. Otherwise, the inflation will require higher interest rates.


        1. OC_Boston_Bay

          Japanese home prices have fallen steadily since 1989. Most Japanese think twice about buying real estate. Same with stocks. Previews of things to come in the USA.

          1. joesez

            Yep. And given the lack of transparency in Wall St, people will hesitate.

            I really disagree with the idea we’ll see inflation like 3-4%. If we have any inflation, it will catastrophic as our dollar collapses.

            Following Japan’s model, we risk deflation.

            Japan’s inflation rate since 2000 is -2.20%. Negative. Home prices will drop as people lack money to buy.

            US is in a liquidity trap, our rates are near 0% and we still can’t kick start the economy.

            We have unemployment near 10%.

            Nothing here tells me we’ll see inflation in 2011.

  5. Kelly

    2011, you must kidding, this is election year, there is no inflation. Fed (actually Obama)will keep rate low to create another bubble.

    1. tonye

      Yes. That’s exactly what I thought when I read today’s blog entry.

      2011 will be an election year. The Democrats know very well what inflation did for Billy Carter, it brought in Ronald Reagan.

      If you combine Obamalosi’s out of control spending with the specter of inflation, it won’t take more than an 8th eduction to put two and two together and realize that all that spending caused inflation.

      Then, all you need is someone to make the point that a lot of that money went to fat cats in Wall Street and those Too Big to Fail Banks and you got yourself a 70% landside on whoever the GOP puts up against Obama.

      Not to mention Congress.

      Me? I’ll just stay out of equities and ride the bond market (or likely go into precious metals or something like that).

      Of course, since I got a fixed 30 year mortgage, a bit of inflation, even if I fall back a bit on the wage front, will be just fine with me. Because I think anyone with a fixed mortgage will come out ahead.

      1. newbie2008

        I thought inflation was caused by the vast right wing conspiracy to get Obama.

        I remember the fixing of the CPI was done by reducing the weigh of inflation from cars, food, gas, rent, utilities, insurance, while increasing the deflation for computers, electronics, mortgage rates. The reasoning when like this: four years ago $5,000 could by the best PC computer, but that computer is only $400 now. So we had deflation. Computer need to be replaced once every 4 years. Car when up in price, but cars last a lot longer. COL for Wages and SSI were set to CPI.

        My CPI is how much more am I spend now compared to last year, the year before, etc.

        Even with the printing, physical and electronic, the total money supply has not gone up significantly, because the banks have not been lending in other areas due to the poor economy. But if the economy recovers, the Fed may have a difficult time to rein in inflation. The usual means are higher interest (reduce lending) and retraction of the printed money (not very easy to do). It’s easier to give out money than to collect it.

    2. IrvineRenter

      Actually 2010 is the election year. They just need to keep a lid on things until November of 2010, then if inflation goes orbital, they have two more years to get it under control.

      1. tonye

        The presidential election is 2012, that means that 2011 and 2012 are “election years” in that the presidential election will be in full swing.

        If inflation goes orbital in ’11 and ’12 Obama is toast.

        I think Obama is a fairly pragmatic and very intelligent individual. He’ll happily jettison Pelosi and her ilk but he wants to get reelected.

      1. Passerby

        The listing does state ‘granite countertops’ after all…

        Maybe that gives the newer neighbors more in common with each other.

  6. IrvineRenter

    U.S. Foreclosure Filings Top 300,000 for Sixth Straight Month

    Sept. 10 (Bloomberg) — Foreclosure filings in the U.S. exceeded 300,000 for the sixth straight month as job losses that boosted the unemployment rate to a 26-year high left many homeowners unable to keep up with their mortgage payments.

    A total of 358,471 properties received a default or auction notice or were seized last month, according to data provider RealtyTrac Inc. That’s up 18 percent from a year earlier, and down 0.5 percent from July, the Irvine, California-based company said in a statement. One in 357 households received a filing.

    Foreclosures rose from a year earlier as companies cut payrolls by 216,000 workers last month, boosting the U.S. jobless rate to 9.7 percent, according to Labor Department data released last week. The rise in unemployment is having a bigger impact than an effort by the U.S. government and banks to modify mortgages and prevent foreclosures, said Morris A. Davis, an assistant real-estate professor at the Wisconsin School of Business.

    “The foreclosure numbers are largely unemployment related,” Davis, a former Federal Reserve Board economist, said in an interview. “As long as 15 million Americans are unemployed, record foreclosures will continue.”

    Foreclosures aren’t abating even as demand is returning to the U.S. housing market after a three-year slump. The number of contracts to buy previously owned homes rose more than forecast in July and increased for a record sixth consecutive month, while mortgage buyer Freddie Mac said the average price rose 1.7 percent in the second quarter.

    Nevada Leads

    Nevada had the highest foreclosure rate in August, with one in every 62 households receiving a filing, even with an 8.4 percent decrease in foreclosures from July, RealtyTrac said. August filings were up 53 percent from a year earlier, with 17,902 Nevada properties receiving a foreclosure filing.

    The second-highest foreclosure rate in August was recorded in Florida, with one in every 140 households receiving a filing, followed by California, where one in 144 households received a foreclosure filing.

    A 9.6 percent month-to-month decrease in filings helped lower Arizona’s foreclosure rate to fourth-highest in August from third-highest in July, RealtyTrac said. One in every 150 Arizona households received a foreclosure filing last month, still more than twice the national average, the company said.

    Forty-seven banks have begun 360,165 modifications through the U.S. government’s Making Home Affordable program, up from about 235,247 in July, the U.S. Treasury said in a report yesterday.

    Mortgage Modifications

    Bank of America Corp. and Wells Fargo & Co., among the worst performers of banks in the foreclosure-prevention plan, stepped up their pace of mortgage modifications by at least 60 percent last month. Bank of America more than doubled its number of modifications started to 59,891 in August from July, while Wells Fargo increased by 64 percent to 33,172.

    While the loan revamps may prevent some foreclosures, many homeowners facing repossession have prime loans, mortgages considered less risky than the subprime loans blamed for much of the housing crash, and can’t make their payments because of job losses, said Richard K. Green, director of the University of Southern California Lusk Center for Real Estate.

    “When people live in a housing market that’s dropped 30 or 40 percent, and they lose their jobs, that’s a recipe for default,” Green said.

    About 4.3 percent of U.S. homes, or one in 25 properties, were in foreclosure in the second quarter, the Washington-based Mortgage Bankers Association said last month. That’s the most in three decades of data, and loans overdue by at least 90 days, the point at which foreclosure proceedings typically begin, rose to 7.97 percent, the highest on record.

    California’s Performance

    California had six metropolitan areas among the top 10. Stockton and Merced ranked second and third; Riverside-San Bernardino-Ontario, Vallejo-Fairfield and Modesto were fourth through sixth; and Bakersfield was 10th. Two Florida metropolitan areas were in the top 10, with Orlando- Kissimmee at No. 8 and Cape Coral-Fort Myers at No. 9, according to RealtyTrac, which collects data from more than 2,200 counties representing 90 percent of the U.S. population.

    To contact the reporter on this story: Daniel Taub in Los Angeles at

  7. RE_Fan

    If we assume the Federal Reserve will allow inflation to take off — something which it is not supposed to do — then how bad will they let inflation get, and why would they do that?

    The first argument the Federal Reserve will make is that the CPI is “behind.” In other words, the deflation we experienced has left the CPI at too low a value. We need inflation to revive the economy with inflation just like we did in 1933. I think this argument is specious, but the Federal Reserve will make it anyway. It is unlikely the FED will be afraid of inflation until well after the crisis passes.

    1) Where exactly did anyone from the Fed make such an argument…That we needed “catch up” inflation? I didn’t see any of the links where anyone from the Fed made such a statement.

    2) Am I correctly reading that you are making an argument against the policy of allowing “expected” inflation to return is a bad policy because inflation is damaging our standard of living? Inflation vs deflation…which would you prefer?

    1. IrvineRenter

      The FED has not made such an argument yet because inflation is not currently a problem. I am speculating that they will make the argument when inflation does become a problem because they will not do what is necessary to curb inflation — raise interest rates.

      I don’t know if I am making an argument one way or the other regarding what the FED should do. I am just speculating on what I believe they will do and what the results will be.

      If I were to chose between inflation and deflation, I would chose inflation. Deflation would benefit me more personally, but if allowed to persist, deflation will put us all out of work and ruin the economy.

      1. QualityPicks

        To prefer inflation at this point is crazy I believe. The reasons markets were giving us deflation was because that is exactly what is needed. When everything started to crumble a year ago I was so “relieved” to know that my dollars were more than before. I could buy twice the shares of companies. Homes were on their way to being affordable. Rents were coming down. Gas was down. Great discounts everywhere. For the first time “ever”, my purchasing power was actually increasing, instead of being decimated little (or a lot) each year.

        The only type of inflation that would be good right now, is wage/salary inflation (and stable prices in everything else). And for what I’ve seen the Fed hates to see salaries go up fast. For what I’ve read in the last 15 years coming from the Fed, salary inflation is the only type of inflation they fight pro-actively. They believe is bad for the US competitiveness, and that it leads to inflation. Everything the Fed does is just screwed up I believe.

  8. RE_Fan

    Don’t get me wrong…the long term devaluation of the dollar seems to be an economic foregone conclusion (has been for what feels like a decade) whether it was against the yen or the RMB.

    The question is whether that decline is orderly or panicky that will make all the difference in the world.

    An orderly decline is in fact probably a positive thing because it will make the country more competitive.

    But I don’t see anyone from the Fed making the argument of allowing “inflation” as a catch up mechanism for a period of deflation.

    In general, many economist believe that “expected” inflation is generally a good thing but the key factor being “expected.”

    Whether they can manage that or not is a different issue all together. But your argument seems to be that inflation = lowering of standard of living and hence is bad?

    The fed actually has a dual mandate of managing inflation (not no inflation) and ensuring employment, which I am sure you already knew.

  9. thrifty

    If you’re interested in a bird’s eye view of the housing crisis, here’s a link to an article in this week’s Barron’s by Alan Abelson who quotes an analysis by Amherst Securities Group. A partial quote from his article on the “shadow market”:

    Amherst estimates this massive overhang at seven million units. That’s the equivalent of 135% of a full year’s existing-home sales and chillingly greater than the 1.27 million units that made up the overhang in early 2005, when the housing bubble had just begun its dizzying and more than a little lunatic ascent.

    Put another way, of the 56 million units that the Mortgage Bankers Association says make up the mortgage universe, Amherst gauges 6.94 million units are in what it dubs the “delinquency pipeline” eventually headed for liquidation. And it reckons that another 300,000 mortgages replenish that unwelcome flow every month…

  10. newbie2008

    There are opposing forces: International bankers and congress/USA. As Ben Franklin wrote: Inflation allows the US to pay back loans with cheap money. The bankers set-up the Fed. Res. to prevent run-away inflation as a payback mechanism. Fed’s means are overnight interest rates and ordering the printing of money. The % of reserves is a longer-term means. The % of reserves has been monkeyed with by allowing fantancy pricing of assets. The US market was tanked in the great depression by allow only 10% down for stock loans. The RE bubble was created by allow 0% to negative down for houses.

  11. no_vaseline

    In order for this to pass, banks must resume wreckless lending to consumers between now and 2011. Does anyone see that happening? No, because what is happening is the opposite.

    [i]Sept. 9 (Bloomberg) — A record $21.6 billion drop in borrowing by Americans added to evidence that consumer spending will be slow to recover as banks and credit-card companies tighten lending standards and households pay down debt.

    Consumer credit fell by 10 percent at an annual rate in July to $2.5 trillion, according to a Federal Reserve report released yesterday in Washington. The drop was more than five times larger than economists forecast. Credit fell for a sixth month, the longest series of declines since 1991. [/i]

    I’ve paid the price since 1981 for the “strong dollar” as a grower. Consumers have been better off due to a flood of cheap imported goods, but with what to show for it? Was offshoring the mfg. worth the cheap price?

  12. Craig

    The sad part is that even with record low mortgage rates, a lot of “home buyers” aren’t able to afford their ARM resets after the teaser intro rates expire. What will happen if mortgage rates double, as seems likely?

    Real estate is generally a good hedge against inflation, except in the case when that inflation drives up mortgage rates and causes a further collapse in the housing market, driving prices into the ground.

  13. Blueberry Pie

    Where is the deflation? I can’t think of any examples (except home prices) of items that have gone down in price. I just paid 99 cents for a candy bar at the grocery store.

    1. RE_Fan

      i bought a luxury car in 2008 for 10k below sticker. I got an absolute steal on my airfare to europe. everything i want to buy is on sale at the mall.

      obviously personal data points but i’m sure other people are seeing similar price action.

      1. Blueberry Pie

        So basically it’s the stuff that people can skimp on that is cheaper – vehicles and vacations.

        I bought a Whopper combo (small) for lunch today and it was $6.50. That’s crazy.

    2. E

      I’ve seen price increases on candy bars, soda and ice cream (Haagen Dazs is now 14oz instead of a pint) but at the grocery stores up here in Hollywierd the NY strip steaks, roast chickens, milk, butter, Orange Juice and produce all seem to have come down quite a bit. Can’t say what it’s like elsewhere however.

      It’s a good thing I don’t eat junk food!

  14. Rocker

    So, do you mean that in a high inflation scenario Irvine home prices will stay the same as they are now? or they won’t go down as much as originally predicted or if they do they will come back quickly?

    1. RE_Fan

      If in a high inflation scenario, irvine prices don’t keep up with the rate of inflation(be it down, flat or up but less so), then irvine prices have come down in real terms.

    2. Rocker

      if the inflation is high, nominal house prices should stay the same or increase, if there’s inflation everything goes up

  15. trustme

    Inflation is not the key in last 10 and next 10 years, and though of de-value dollar will discount our debt is very dangerous too.

    Inflation will never go up, dollar will never be crashed but rather disappear – new international currencies will come out in 5 years. And our child will inherit our debt: $60 trillion with 5% rate every year.

    US dollar as only international currency is most precious we have now, and Obama abuses it now. Obama just printed $10 trillion and loan at least $10 trillion to Wall St.
    And bush just $2 trillion in 2 years. Yes, he bashes Wall St. that’s so easy, because every does this.

    Wall St. never “love” our country, they love $ and … maybe another country, and the dangerous is we always think they can save U.S. by playing monetary games with China, India, Russia etc.
    No more, not any more with $20 trillion, US dollar will be replaced by other currencies in 5 years. Our children ONLY inherit debt.

  16. norcal

    Much as I respect you, IR, this posting is too scattered to make sense to me. Blame everything on the Fed and the government conspiracies! It’s too unfocussed a post to really make a point, aside from anguished venting.

    You may not remember everyone’s complaining about the powerlessness of the Fed to curb inflation in the 1980s, despite St. Volker’s vaunted superpowers. Now you’re saying it’s all-powerful, despite it’s apalling inability to rein in the psychotic lending practices of the past decade.

    And you may not realize that the CPI, since it doesn’t include housing or fuel prices, doesn’t actually reflect inflation as consumers experience it. The numbers have been doctored since the Reagan administration at least. So you can’t really trust them to figure out what, if anything, government policy is in the shadows.

    1. Blueberry Pie

      Not that IR needs defending, but I took his “JFK Conspiracy” to simply be an example. That IF there was some other gunman, the government MIGHT choose to hide information from the public for its own safety.

      1. OC_Boston_Bay

        Read “Legacy of Ashes” a history of the CIA which contains lots of recently de-classified material. JFK and especially RFK are portrayed as vicious manipulators who used the CIA as their personal toy, but failed to hit the mark and got hit instead (at least JFK).

        Another book entitled “Presidential Courage” details JFK’s intravenous speed habit (administered by Dr. Feelgood of the Upper East Side crowd). My favorite anecdote is of JFK welcoming Dr. King to the WH for coffee and sandwiches after his famous speech by playfully mocking him with “I have a dream”.

    2. Food

      You said you are confused about IR’s blog being full of government conspiracy, and you were also quick to point out that you don’t trust the government CPI number.

      What makes you like one conspiracy over the others?

      In reality, there is no such entity as conspiracy. It is all a smear campaign to discredit any scholarly research.

  17. tlc8386

    well this is about the best group of posts I have read and it’s entirely related to the RE market.

    Keep up the excellent work IR–you are actually educating some folks and vice versa!!!

  18. AVRenter

    Impeccable timing. Inflation has been the subject of the last two posts at Of Two Minds. I think it’s some sort of conspiracy between CHS and IR.

    Inflation, Commodity Prices and the Dollar

    The Politics of Inflation: Theft by Other Means

    I know IR’s post is more of a forecast/cause/effect of inflationary reality but I’m a bit surprised at the lack of vitriol towards the inherent thievery of inflation. CHS summarized at the end:

    “the basis of stable consumer prices is a stable, sound currency. Speaking of which: here’s an idea whose time has come: End the Fed by Ron Paul. This book is currently #6 on, so we can surmise that many other citizens are concluding it is indeed time to end the experiment of State manipulation of money supply, liquidity and interest rates, all of which have led to endless and endlessly destructive asset bubbles, inflation and financial fraud.”

  19. winstongator

    Goldman Sachs comparison of quantative easing vs. interest rate move

    “Specifically, GS estimates, based on market responses to Fed moves to date, that it would take between $1 trillion and $1.6 trillion of unconventional easing to accomplish as much as the Fed can achieve, in normal times, by cutting the Fed funds rate by 1 percentage point.”

    We had rates below the ‘Taylor rule’ recommendation for most of 2004 and longer, which many say contributed to the worsening of the housing bubble. Where were the inflation hawks then?

  20. Muzie

    How about the possible scenario… that things will be just fine in the end and everything will be just fine? By fine, I don’t mind an economic boom or bubble, just people minding their business, going to more sensible lending, and businesses being more cautious. That’s what recessions are for.

    I’m sure the “nothing special will happen and life goes on” scenario doesn’t make for very interesting blog posts, but it’d be a bit of fresh air. Even if the gloom happens, it’s completely unactionable. To take action means to hunker down in survival waiting for the “inevitable” crash and I can’t imagine anyone been very emotionally healthy if they take this stance for years and years.

    I’m still all ears looking at the inflation scenario, and trying to form an opinion. But there’s way too many strong, competing forces on each side of the argument to be thoroughly convincing either way. And unfortunately I find most people who push for one economy theory over another generally have some political agenda, world view or issue with government mistrust that colors everything they think.

  21. Robert Cruickshank

    I really like this blog, but IR has an odd tendency to come up with predictions or statements about macroeconomics that aren’t based in evidence. Which is really unfortunate, because when he does stick to the evidence, such as his posts on the OC housing market, he’s the best in the business and has a track record I’d stick up against anyone.

    This post boils down to two totally unsupported assertions. The first is that inflation is somehow going to return in 2010-11. I suppose it might, but IR hasn’t actually explained in any detail why that’s going to happen. I’m not seeing the conditions that would promote inflation – unemployment is going to remain very high well into 2010 and 2011, and the possibility of a massive government spending spree strikes me as extremely unlikely (Congress won’t go for it, and the White House has downplayed talk about it).

    I suppose that we could see a major devaluation of the dollar, but again, the case for that actually has to be argued and demonstrated, and not just asserted.

    The second totally unsupported assertion is that the Federal Reserve would just let inflation run its course. I find that a very difficult assertion to defend. The Fed, being an extremely political creature, shares the same political landscape as the rest of us, and that landscape is deeply intolerant of inflation. 35 years ago, the political landscape was deeply intolerant of deflation and quite willing to tolerate inflation. As much as the politicians of the ’70s wanted to “Whip Inflation Now” they weren’t willing to take deflationary measures to do it.

    Here in the late ’00s and early ’10s, the reverse is true. Politicians may claim to want to address deflation, but they are in no mood whatsoever to promote inflation.

    Same with the Fed, which as far as I can tell still operates under the basic rule Volcker laid down in the early 1980s – that inflation was to be fought at all costs. The Fed and the current political regime are quite happy to tolerate extremely high unemployment for an extended period if it prevents inflation.

    I see nothing, nothing whatsoever, to suggest this has changed. I wish it had. Some real inflation, especially wage inflation, would probably do most of us a lot of good, especially if people aren’t willing to explore the kind of outright debt jubilee people like Steve Keen have advocated.

    But until we have a political landscape that sees unemployment and deflation as intolerable, I think those who make the case for inflation have to provide some very compelling evidence to make their case. And unfortunately, IR simply hasn’t provided it.

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