Monday, April 12, 2010

Deflation: The Wal-Mart Signal? Rosenburg

I've posted many times on the deflation vs inflation debate. Evidence is growing that we are in a deflationary environment, at least temporarily (though long term I believe the issue will be inflation).

For many this will be hard to believe given that they don't see many prices falling (which by the way isn't actually deflation - but the effects), but the evidence is trending toward deflation. Incomes are not growing, they are shrinking, home prices are only up because they have been subsidized heavily. Energy has been the one area that has risen and this will no doubt cause pressure.

David Rosenburg in his Breakfast with Dave commentary has the following to say:

"With credit contracting, rents deflating, the broad money supply measures now declining and unit labour costs dropping at a record rate, it hardly seems plausible that inflation is a risk at any time on the near- or intermediate-term forecasting horizon.

Plus, keep in mind that the price-setter for the entire retail sector, Wal-Mart, just announced price cuts on 10,000 items -- you heard that right. That is deflation, not disinflation or inflation or any other 'flation. And just to show you the enormity of this announcement, the CPI contains 8,018 items!

M2 declined by 11.7 billion dollars in the March 29th week and MZM fell by $5.2 billion. Both are down 4 weeks in a row. On a 13-week rate of change basis, M2 has contracted at a 2% annual rate. MZM is down 7.2% over this time frame.

In other words, liquidity conditions are no longer sources of support for the overall investment landscape. The Fed has also allowed the monetary base to shrink over the course of the past month. So while policy rates are still low, the abundance of money supply evident in the broad monetary aggregates is beginning to recede.

Bank credit is still shrinking with total loans and leases being run down by 13.2 billion dollars in the latest week. Over the past 13 weeks, bank lending to households and businesses has declined at an 8% annual rate.

The banks have been buyers of late of government securities -- adding $185 billion to their cache in the past year. This has helped finance around 15% of the fiscal deficit and the commercial banks still have 1.3 trillion in cash assets to put to work in the bond market since there is little chance these reserves will ever be deployed into nonliquid assets such as consumer or real estate loans."

The point he is making is that interest rates may NOT be heading up anytime soon.

Scott Dauenhauer CFP, MSFP, AIF