Saturday, February 16, 2008

Debt Rattle, February 16 2008

Please note: we will post a feature this afternoon on European think tank LEAP 2020's latest report

US subprime crisis costs global 7.7 trillion dollars
The meltdown in the US subprime real-estate market has led to a global loss of 7.7 trillion dollars in stock-market value since October, a report by Bank of America showed Thursday. The crisis, which has spread beyond US shores to banks and other sectors worldwide, is "one of the most vicious in financial history," according to Bank of America chief market strategist Joseph Quinlan.

Quinlan said in the report that the losses are worse than any in the past few decades, including Wall Street's Black Monday of 1987, the 1999 Brazilian real currency crisis and the collapse of hedge fund Long Term Capital Management (LTCM) in 1998. An analysis by the US bank showed that in the most recent episode linked to subprime, or high-risk, real estate loans to people with shaky credit, world market capitalization was down 14.7 percent three months after a peak in late October.

That compared with a similar loss three months later of 13.2 percent after the LTCM crisis, 9.8 percent for Black Monday and 6.1 percent for the Brazil crisis. The losses were also greater than those suffered after the September 11, 2001, terro attacks, the Asian financial crisis starting in 1997, Argentina's default on its debt in 2001 and the 1994 Mexican peso crisis. "It could take months or even years before Wall Street and others get a handle on the true cost of the US subprime meltdown and the attendant global credit crunch," Quinlan said

Unidentified Financial Objects
Most of the stories we read now do a good job of explaining how the crashing housing market is leading this recession but do less well covering the inflation side of the story. The reason is that this is not a typical recession. It is an inflationary (monetary inflation) debt deflation (credit markets asset price deflation) and not one in a million understands what they’re looking at, including Bernanke and members of Congress.

We can observe the mis-comprehension at sites like that attempt to explain how recessions work. First, the howstuffworks graphic that shows the self-reinforcing nature of a recession as an economy spiral.

The traditional Keynesian explanation is that the recession cycle starts with a dispirited Joe Consumer losing confidence in the economy and so he stops buying so much stuff, then he gets laid off, then he spends even less as his income disappears, then his friends and neighbors hear about his plight and they start to lose confidence, too, then investors bail on the economy and stocks, the stock market goes down, leading to further loss of confidence.

The problem with this explanation is that it does not explain why Joe lost confidence in the economy in the first place. Are the newspaper stories he’s reading about recession causing him to lose confidence or did the recession that the papers are writing about cause him to lose his nerve? The Keynesian explanation is tautological.

Our take is that every recession is different and this one is more different than all of the others. It’s the result of several unique factors and some not so unique factors feeding into each other. I leave you with the iTulip version and bid you and your family an enjoyable weekend, recession or not.

Bond Insurer Seeks to Split Itself, Roiling Some Banks
The beginning of a messy endgame to the bond-insurance crisis may be under way, and the industry that emerges could look very different from the one that bet big on subprime mortgages. On Friday, Financial Guaranty Insurance Co., the nation's third-largest bond insurer, told the New York State Insurance Department that it will ask to be split into two separate companies. The idea would be for the new company to insure safe municipal bonds and for the existing one to keep responsibility for riskier debt securities already insured, such as those tied to the housing market.

The move may help regulators protect investors who have municipal bonds insured by the firm. But it could also force banks who are large holders of the other securities to take significant losses.
All of the banks have hired legal counsel and are prepared to go to court. The person familiar with the situation said FGIC's move could result in "instant litigation."
One plan the parties are discussing involves commuting, or effectively tearing up, the insurance contracts the banks entered into with FGIC ... In exchange, FGIC would pay the banks some amount to offset the drop in value of those securities, or give them equity stakes in the new municipal-bond insurance company.
"You're trying to unscramble the egg," said William Schwitter, chairman of the leveraged-finance practice at law firm Paul Hastings. "When you take a balance sheet that is supporting a variety of obligations and try to split it in two, it's difficult."
However, if a breakup is endorsed by the New York Department of insurance, that could limit the legal liability.

At Spitzer's Next Stand
Banks, Others Face Billions In Losses Under Bond Plan

Eliot Spitzer has few fans on Wall Street. The New York governor, back when he was the state's attorney general, forced brokers and fund managers to pony up nearly $2.5 billion to settle lawsuits over research conflicts and late trading. But that will look like chump change compared with the losses Mr. Spitzer's plan for bond insurers could cause.

Mr. Spitzer and his insurance commissioner, Eric Dinallo, want bond insurers to separate their safe muni-bond exposures from riskier policies covering dodgy mortgage bonds, collateralized debt obligations and other structured-finance investments. One insurer, FGIC, reportedly wants to do so. But Mr. Spitzer's plan would batter banks or investors holding insured mortgage bonds or CDOs. Look at FGIC. It backs about $95 billion worth of nonmunicipal securities. Big chunks of that are mortgage bonds -- some backed by subprime mortgages -- and CDOs.

If FGIC separates its low-risk muni-bond policies from those covering riskier securities, the latter portfolio may not be able to cover all its potential losses, unless FGIC drums up a lot more capital. Since it hasn't been able to do that for its combined portfolio, this looks like a long shot. With loss assumptions on subprime mortgage bonds running upward of 20%, and a liquidity freeze battering CDO prices overall, there's a good chance those FGIC-backed securities would fall sharply in value, possibly by tens of billions of dollars.

What can banks and investors facing those losses do? Well, some lawyers think suits based on the concept of fraudulent conveyance -- where assets pledged to one party are fraudulently shifted to benefit another -- might stop the bond insurers from splitting themselves up. But there's Mr. Spitzer's mastery of spin to consider. He has assumed the role of noble defender of taxpayers and muni-bond investors. Whatever legal gambits Wall Street tries, it will need to step carefully to avoid the sort of public-relations nightmares it suffered when clashing with its scourge in the past.

Investment-Grade Defaults to Rise, Credit Models Show
The seizure in the credit markets caused by the collapse of subprime mortgages is making investors doubt even the AAA rated securities of companies with investment-grade credentials.

The Markit CDX North America Investment-Grade Index of 125 U.S. companies from AT&T Inc. to Walt Disney Co. signals the greatest risk of its members defaulting at the same time since the measure started trading in 2003, according to Royal Bank of Scotland Group Plc. The so-called default correlation model rose to 42 percent on the part of the index that's most exposed to losses, according to data compiled by Bloomberg and Milan-based UniCredit SpA. In May, the model was at 15 percent.

Investors are concerned that the fallout from last summer's sudden increase in credit costs will spread to companies that have no difficulty paying their bills as the U.S. economy slows. Seven companies defaulted last month, including Quebecor World Inc., North America's second-biggest publicly traded printer, and restaurant chain Buffets Holdings Inc., the most since 2004, Moody's Investors Service said.

"Fundamentally the risk of default is going to be higher,"said Julian Mann, who help manage $3.4 billion as vice president of fixed income at First Pacific Advisors LLC in Los Angeles. "Correlation should continue to achieve new records as this gets worse and worse."Banks and investors rely on default correlation models to price collateralized debt obligations that are made up of credit-default swaps. The swaps are financial instruments based on bonds and used to speculate on a company's ability to repay debt.

'Men in White Coats'
Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. A rise in the cost of the contracts indicates deterioration in the perception of credit quality; a decline, the opposite. CDOs are divided into levels of risk and return. The equity portion pays the highest yield and is the first to absorb losses; the so-called super-senior part has the lowest yield and is the last to take losses.

"A year ago, just the mention of equity tranche correlation at around 50 percent would have brought out the men in white coats,"Gregorios Venizelos, a London-based credit derivatives strategist at Royal Bank of Scotland, wrote in a note to investors.

U.S. Economy: Confidence Drops, Factories Stagnate
Confidence among American consumers slumped to the lowest level since 1992 and factory output failed to increase, indicating the damage from the housing contraction is pushing the economy toward a recession.

The Reuters/University of Michigan index of consumer sentiment fell to 69.6 in February from 78.4 the previous month. The Federal Reserve said manufacturing production was unchanged in January after two months of gains, while a gauge of activity at New York factories contracted this month.

"We're seeing a clear pattern of sudden weakening in both consumer and business confidence, which frankly is the sign of a recession," said James O'Sullivan, a senior economist at UBS Securities LLC in Stamford, Connecticut, who had the closest forecast for consumer sentiment in a Bloomberg News survey. U.S. government bonds rallied after the figures, sending two-year note yields to the lowest level since 2004, while the dollar dropped. The reports reinforced traders' anticipation that the Fed will need to cut interest rates by at least a half- point by the end of the March 18 meeting.

The reading on consumer sentiment was the weakest since February 1992. Economists had forecast the measure would fall to 76, according to the median of 66 projections in a Bloomberg News survey. The decline in confidence indicates that pledges of tax rebates and lower interest rates failed to ease Americans' concerns about falling home and stock prices and rising unemployment.

Downey Financial Non-performing Assets
From the Downey Financial 8-K released today.

This would be a nice looking chart, except those are the percent non-performing assets by month.

Yes, by month!

Commercial Builder Woes: What if There’s No Tenant at the End of the Rainbow?
For those investors, lenders and developers who are hoping that the commercial real estate market can avoid the doldrums that are ailing the housing market, talk to John Deatherage. The Knoxville builder, who is attending this week’s home builder convention in Orlando, was slated to break ground on six retail projects across the Southeastearn U.S., but his investors have put four developments on hold through the first quarter, at least.

Mr. Deatherage, the owner of PremierDeveloping, says his investors are worried that widespread foreclosures and rapidly falling house prices will eventually alter income levels in the residential neighborhoods near the developments, which would change the prospective commercial tenant base in the area.

“If the median home price drops from $400,000 to $350,000 that changes the whole neighborhood,’’ he says. “That directly impacts commercial retail.” For example, he says, it’s difficult to attract higher-end retail tenants to a neighborhood where home values are sinking or uncertain at best.

Some 145 million square feet of new retail space was built in the top 54 markets last year, with another 123 million square feet in the pipeline this year, according to Property & Portfolio Research. By comparison, the annual average between 2000 and 2006 was 118 million square feet.

UBS write-downs could double
Swiss bank UBS could face billions of dollars more in subprime-related write-downs in 2008, which could tip it into a second year of losses, analysts warned investors, sending its shares tumbling again.

Some said UBS might be only halfway through clearing the debris from the subprime loan disaster that has already saddled it with $18 billion in charges in 2007. The prognosis knocked UBS shares down 5.93 percent to 35.24 francs by 1130 GMT on Friday, a day after falling 8 percent on the news that the company had at least $80 billion in exposure to subprime loans and other risky debt, nearly three times more than it had previously disclosed.

"The disaster is much worse than we had thought," said Dirk Becker, analyst at Landsbanki Kepler in Frankfurt. "It looks like they face another very bad year, and a loss for 2008 is not inconceivable."
Equity analysts at Citigroup said UBS might have to spend 12 to 20 billion Swiss francs on additional write-downs.

Others, including Lehman Brothers, which tallied UBS's exposures at $97.3 billion, said a write-down of 10 billion francs was on the cards. "A further 10 billion Sfr write-down would eliminate all profit for 2008, which would likely be a negative for the stock price," said Lehman in a note.

Big deals under threat over bank losses
Leading banks are being advised that it would be cheaper to walk away from big buy-out deals than incur further losses on their funding commitments, increasing the chances that more high-profile private equity transactions will collapse. This advice from lawyers contrasts with the conventional wisdom that banks would risk serious damage to their reputations if they were to drop out of deals.

But legal advisers argue that the break-up fees banks would owe in such cases would be far lower than the write-downs they would have to make on their loans, given the current cataclysmic conditions in the capital markets.
“It is the tipping point argument,” said a senior partner at one of the biggest private equity firms, who asked not to be named. “The banks have so many issues with their balance sheets that they are considering a new policy.”

However, such a radical shift could have a dramatic impact on the markets. The presence of private-equity buyers is one factor that has helped boost stock prices. “If you want to come up with news that could make the Dow drop another 500 or 1,000 points, this would be it,” says one lawyer specialising in private equity issues for a major New York law firm. “But desperate times call for desperate measures.”

So far, leveraged buy-outs have usually collapsed when the private-equity firms involved – including Blackstone and Cerberus – have withdrawn from transactions. Such moves have occurred as banks have been working behind the scenes to persuade private equity firms to abandon deals. Such indirect approaches are designed to prevent target companies from filing suits seeking to make sure deals close.

However, the chances of banks abandoning buy-out deals – such as those for Clear Channel Communications, the radio station owner and outdoor advertising company, and BCE, the Canada-based telecoms group – are growing as the market prices for the leveraged loans used in such transactions continue to fall. US regulators are pressing banks to account for these loans at market prices while they keep them on their books. Already, it is understood that one bank has marked down its share of the loan used in the Clear Channel buy-out to 85 cents on the dollar.

By contrast, lawyers are telling the banks that if they walk away from deals, their biggest liability would be equivalent to the so-called reverse break-up fee that private equity firms pay target companies when deals fail to close. These fees usually amount to about 2 per cent of the total value of a deal, or about $500m in a large buy-out.

What you don’t know can hurt us
The Bush administration has a long and comical history of going to great lengths to hide bad news from the public. Today, Amanda at TP reports on the latest gem:
The U.S. economy is faltering. Family debt is on the rise, benefits are disappearing, the deficit is skyrocketing, and the mortgage crisis has worsened. Conservatives have attempted to deflect attention from the crisis, by blaming the media’s negative coverage and insisting the United States is not headed toward a recession, despite what economists are predicting.

The Bush administration’s latest move is to simply hide the data. Forbes has awarded one of its “Best of the Web” awards. As Forbes explains, the government site provides an invaluable service to the public for accessing U.S. economic data:
“This site is maintained by the Economics and Statistics Administration and combines data collected by the Bureau of Economic Analysis, like GDP and net imports and exports, and the Census Bureau, like retail sales and durable goods shipments. The site simply links to the relevant department’s Web site. This might not seem like a big deal, but doing it yourself–say, trying to find retail sales data on the Census Bureau’s site — is such an exercise in futility that it will convince you why this portal is necessary.”

Alas, as the economic conditions worsen, the administration decided to shut down this “necessary” website, citing “budgetary constraints.” How expensive could it be for the Economics and Statistics Administration to keep a website online? Probably not much, but the political costs of making embarrassing data easily accessible to the public is probably quite high.

As long-time readers may recall, I started keeping track of instances in which the Bush administration would hide inconvenient data quite a while ago. Some of my favorite examples include:
  • In March, the administration announced it would no longer produce the Census Bureau’s Survey of Income and Program Participation, which identifies which programs best assist low-income families, while also tracking health insurance coverage and child support.
  • In 2005, after a government report showed an increase in terrorism around the world, the administration announced it would stop publishing its annual report on international terrorism.
  • After the Bureau of Labor Statistics uncovered discouraging data about factory closings in the U.S., the administration announced it would stop publishing information about factory closings.
  • When an annual report called “Budget Information for States” showed the federal government shortchanging states in the midst of fiscal crises, Bush’s Office of Management and Budget announced it was discontinuing the report, which some said was the only source for comprehensive data on state funding from the federal government.
  • When Bush’s Department of Education found that charter schools were underperforming, the administration said it would sharply cut back on the information it collects about charter schools.

My friends at TPM took this even further, and compiled a comprehensive list, through a project they called, “What You Don’t Know Can’t Hurt Us.” Paul Kiel published the latest version a couple of months ago, and it’s chuck full of mind-numbing examples like these. When public information conflict with the White House’s agenda, the Bush gang has a choice — deal with the problem or hide the information. Guess which course they prefer?

China Exports Grow 26.7% Despite Weaker Demand, Storm
An acceleration of China's export growth in January will likely bolster the case for Beijing to continue its tight monetary policy. Economists said the trade data and rebounding money-supply growth in January will encourage China's government to continue trying to curb inflation and economic overheating, instead of easing policy to cushion the nation from the impact of a slowing U.S. economy.

China's exports in January grew 26.7% from a year earlier, higher than December's 21.7% rise and the average forecast for an 18.5% gain in a poll of eight economists by Dow Jones Newswires, data issued Friday by the General Administration of Customs showed.

The pickup confounds expectations that export growth would slow as global demand for China-made goods weakened and snow storms battered many parts of China last month, shutting down factories and roads. Still, the January numbers typically are an imperfect barometer because of seasonal distortions caused by China's Lunar New Year holiday.

The U.S. slowdown is likely to hurt Asian countries that rely on exports to the U.S. This week, Singapore cut its economic growth forecast for this year and said the U.S. will likely enter a mild recession in the first half.
Warning against reading too much into a single month's data, economists said they expect China's export growth will also slow this year. The customs bureau didn't say how quickly Chinese exports to the U.S. or the European Union -- the country's two key export markets -- grew in January, making it hard to assess the impact of the U.S. slowdown.

Still, China's strong trade performance now "doesn't lend support to the argument that policy tightening needs to be loosened because of sluggish exports," said Goldman Sachs in a research note.

Another victim of foreclosures: day laborers
‘These are the worst of times,’ would-be worker says in Spanish

The most desperate men park themselves on corners well before dawn, hoping for first dibs on jobs. Most days, no one gets dibs — no one gets jobs. Foreclosures are at record highs, home sales are at record lows and skittish consumers are cutting back on spending, all of which means contractors, construction crews and carpenters are no longer hiring. Neither are landscapers, cleaning services or homeowners.

Work, never a given for day laborers in the best of times, is almost nonexistent these days.
"These are the worst of times," would-be worker Ramon De la Cruz said recently in Spanish, noting that he had worked only one day in the previous six. De la Cruz came here from Tabasco, Mexico three years ago to earn money to provide for his daughter, now 5. Only a year ago, he could still make $500 a week. But Graton (pop. 1,815), sits in western Sonoma County, which has been hit hard by the housing downturn. Home loan defaults nearly tripled from 2006 to 2007, while housing prices dropped by 22 percent, according to DataQuick, a real estate data firm.

De la Cruz and his friends at the Graton Day Labor Center, where seven out of 70 workers might nab work on what passes for a good day, are not sure what they will do. Some have tried moving to other states only to find that workers everywhere are reeling under the fallout from the nation's housing woes. Not since the weeks after Sept. 11, when the entire nation froze in shock, have day laborers been in a more precarious position, according to workers and their advocates.

Already among the poorest, most stigmatized workers in the country, the nation's approximately 100,000 day laborers, many here illegally, are finding themselves struggling as never before. Without the proper documents, their job options are limited to odd jobs for cash. Without those, many can barely feed themselves, let alone provide for their families, here or in their native countries.

And they're facing more competition for the few jobs that are left. As companies in the housing and home improvement industries have cut back on salaried employees, many of those workers have joined the day labor pool. As a result, advocates say, more day laborers are becoming homeless, more are taking risks for jobs that endanger their health or don't pay and more are spending their days haunting street corners, where they are resented, even reviled.

"Our fear is that the economic downturn will create a perfect storm where day laborers will be scapegoated more than they already are," said Chris Newman, legal director of the National Day Laborer Organizing Network. "They're already deemed symbols of a broken immigration system. What will happen next?


Farmerod said...

I think it was from the TOD community that I was referred to Financial Sense Newshour for finance/economic analysis particularly as it related to peak oil. Because these FSN guys were aware of peak oil and had guests like Simmonds on quite often, they seemed very credible to me. But their continuing premise that hyper-inflation has begun - and will continue - has worn thin in light of what we are learning on TOD:C, TAE and others. Today, FSN has John Williams of Shadowstats on the program beginning half-way through the third hour. And while I don't doubt that M3 may be growing at 16%, its all time high, I'm beginning to understand how that and the use of the TAF is actually small potatoes compared to the deflation of the derivative credit-hyperexpansion. But I'll leave it to Stoneleigh, Ilargi and others to agree/disagree and expand on the specific explanation, if they so choose. All I will say is that many TODers who have listened to the FSN must be confused as to what to do to escape this financial catastrophe. I didn't hear it in the portion of hour 3 that I listened to today but it's been their pretty consistent advice to own lots of gold. Having listened to FSN today for the first time in a long time (and probably my last time), and having heard that we're probably looking at some sort of financial storm in the 2009-2012 timeframe i.e. NOT this year, I've realized that their analysis just doesn't seem credible anymore. They're really missing the bigger picture of credit and still talking about 10's or 100's of $billions of write downs, not the $trillions of moneyness that have already disappeared and the 10's of $trillions that are perched on the precipice. I thank them for advancing awareness about peak oil but, for me, it's time to move on.

That's a roundabout way of saying thanks to Stoneleigh and Ilargi for all their hard work on this site and TOD:C, and for having the patience to explain a very complex system to a population that has been previously taught a lot of bs economics by influential people with vested interests.

madhatter said...

I too would like to express my appreciation for the work that you are sharing at this site.

If I have a question, it is why I am reading virtually nothing about Canada? Having read about significant banking related problems in Spain, England, Germany, Iceland, Ireland, etc., it is hard to think that Canada has been relatively immune.

westexas said...

After listening to FSN this morning, my post on TOD:

I've decided that my take on the issue is that the American consumer is like a blind drunk guy staggering across a highway filled with speeding 18 wheelers. If he is not crushed by deflationary 18 wheelers, he will be crushed by inflationary 18 wheelers--of course while being bombed by higher food and energy price dive bombers.

Jeffrey J. Brown

Ilargi said...


Canada is still in the all out cheerleading phase. It also doesn't have much in the way of good media for domestic issues. As the country unfolds and unwinds, we will certainly report on that.

I'll post the Leap/E2020 report within the hour. Don't miss it. These guys know about 18 wheelers.

Bigelow said...

Yes thanks, please keep up the good work!

I get that if something becomes scarcer its price is likely to increase, so peak oil, droughts can explain why some prices may not fall much. I am thankful for Doug Noland’s concept of “money-ness”. I get monetary change, the increase/decrease of cash + credit (money supply) is the real reason for monetary inflation/deflation and a big influence on prices.

The Unidentified Financial Objects article on Saturday said “…[T]his is not a typical recession. It is an inflationary (monetary inflation) debt deflation (credit markets asset price deflation) and not one in a million understands what they’re looking at, including Bernanke and members of Congress.”

I want us all to be amongst those one in a millions. But presently I’m not.

Mish Shedlock writes “For purposes of this discussion we choose to define "printing money" as an expansion of monetary base money... Expansion at under 2% annually and "Printing Like Mad" somehow do not seem synonymous.”

And Friday’s comments Stoneleigh said... “Once international debt financing is a thing of the past (so that the bond market loses its power), then hyperinflation will follow IMO, but we're fated to suffer credit deflation first. No printing presses would be able to keep up with the amount of excess credit that set to deflate over the next couple years anyway, as deflation can suck liquidity out of the system far faster than anyone can pump it in. Without confidence, there is no liquidity.”

That is just the cogent world view I wish to have the understanding for. Q: In the near future, what could cause monetary inflation as Unidentified Financial Objects article says? What am I missing? Is cash wildly increasing somehow? Are Sovereign Wealth Funds buying more or U.S. investors repatriating enough dollars to increase the domestic U.S. money supply?
Please comment.

Ilargi said...


I did see, of course, the definition from iTulip. By now I find it becomes sort of a game to throw out all these confusing and contradictory statements. As if the discrepancies in definitions of inflation are not enough yet.

Still, if iTulip now wants to introduce inflationary deflation, they have my blessing, though I think it makes them look a bit silly. Deflation and inflation are opposite sides of a spectrum, plain and simple.

Obviously, the fact that prices for some goods may rise due to scarcity, does not negate the deflation we have entered. I read somewhere this week that "falling home prices do not mean deflation, but resetting of values". Everybody tries to make up their own definitions, and if I'm not mistaken, that's how the Tower of Babel once got built.

In Feb 12's Debt Rattle, an article named "Fed Eunuchs Reveal True Selves In Technicolor " makes it all quite clear, and has a very good graph to illustrate its points: The Fed is drawing money out of the market at lightning speed. And that's just one part of the vanishing pecunia around us. We define deflation as a shrinking money base, and that's exactly what we see.

Anonymous said...

Hi. Great blog. Still trying to understand this stuff.

During deflation, what do you all think will happen to food and energy prices in the US? Right now they are clearly going up. Could that continue during a more general deflation?

Will savings accounts remain safe?

I'm reading Panzner's book, Financial Armageddon. Do you all agree with his perspective?

Ilargi said...

OC, (top comment)

Never listened to the FSN, till a few weeks ago for 10 minutes, when Westexas said Puplava started to sound like us. No gloating here, but 10 minutes was enough.

I read tons of this stuff, and try to keep a healthy distance from points of view shaped by vested interests. What always strikes me in the investors community is the conviction of the vast majority that they will come out fine, because they have such great insight.

And you'd tend to believe them, until you figure out that many experts contradict each other's views and predictions. And yes, then comes a moment when you realize it's time to move on.

It's like the iTulip piece today: I posted it because it's interesting, good statements and great graphs, etc., but inflationary deflation?! Isn't that trying to have it and eat it too? Then again, as you know Canada has a Progressive Conservative political party. Nuff said.

Oh, not quite nuff, since that (man & woman, black & white etc.) reminds me of a piece I decided not to post a few days back, about Goldman Sachs covering full costs of sex-change operations for their staff, in order, as they said, to "ensure full diversity" among their employees.

Ilargi said...

Anon (comment 7) (please leave a [nick-]name, it gets confusing):

In a deflation prices on general go down. An aspect often overlooked is that some prices go down, but slower than the average rate, and so get more expensive in relation to incomes. That's what I think food and energy will do. Expect a far higher percentage of your income - if you'll still have one- to go into food and energy. Far higher.

And don't think too easily that that job is safe. We will see masses of pink slips, and many people will get them who least expect it.

I haven't read the whole book, just parts, but my co-conspirator Stoneleigh is a big fan.

Stoneleigh said...


As ilargi says, I would heartily recommend Panzner's book. Panzner and I agree that we'll see credit deflation likely followed by currency inflation, once international debt financing is a thing of the past so that governments are no longer held hostage by the bond market.

Again as ilargi says, you would expect asset prices to fall during a deflation, but not necessarily evenly, and lower prices then may be less affordable then than higher prices are now if purchasing power is falling faster than price. I would expect a much larger percentage of much smaller incomes to be chasing essentials like food and fuel, hence they would probably fall by less than most other things, and the fall in price may well be temporary.

Deflation causes demand destruction (as in economic terms demand presupposes purchasing power), but later on will also cause supply destruction as businesses currently engage in supply go under. In the case of oil, nationalization is likely to be the wave of the future. With oil companies facing higher physical risks and a higher risk of confiscation as well, they aren't likely to be throwing money around on new drilling in a capital starved world.

For a very illuminating read on the situation with food, I'd recommend Eating Fossil Fuels by Dale Allen Pfeiffer. Essentially agriculture faces huge problems if fossil fuels become less available, on top of the substantial problems it faces from climate change (lack of water etc), plant diseases due to monocropping, soil degradation and conversion of food to biofuels. Expect food as well as fuel to become difficult to come by.

As for the question regarding savings accounts, I certainly wouldn't assume they were safe. There's every reason to think that savings accounts would be vulnerable, as the banks appear to have an acute solvency problem and FDIC insurance was never designed to bailout systemic risks.

headaroundit said...

Thanks for the response ilargi (I was comment 7).

If I understand correctly, you believe we will see deflation until, in effect, the US defaults on its international debt. At that point, it won't need to worry about international debt interest rates anymore so can inflate, the lesser evil at that point. For a simple mind, is that about correct?

headaroundit said...

It looks like Stoneleigh answered my question about US default and inflation before I even posted it! Thanks.

Anonymous said...

It is quite possible for the price of some goods to rise during a general deflation.
After all, most of the original inflation went into assets like property. As that credit/debt/money disappears, these bubble assets will see most of the deflationary effect.
On the other hand, prices of essential goods would be expect to deflate less, as they never suffered the same degree of inflation (in the monetary sense) earlier.

Add in the possible effect of a falling US dollar - as foreign investors become less willing to fund the geverment deficit - and it is possible that food and oil rise in US dollar terms even as the money supply crashes.

If the money supply is falling at a slower rate in other countries, the relative purchasing power of foreign buyers of food and oil will be increasing, which may lead to an increase in demand as measured in US dollars.

Anonymous said...


You say:
"that we'll see credit deflation likely followed by currency inflation, once international debt financing is a thing of the past so that governments are no longer held hostage by the bond market."

I commented yesterday that the monolpoly of the Federal reserve on issuing currency makes hyperinflation impossible, as the goverment must borrow from the Fed rather than printing money themselves, and increased goverment debt leads to higher interest rates, which limits borrowing.

Unless the goverment takes the doomsday option of just giving up on ever borrowing again, and takes back the power to print money.
I noted they would never do this unless the system was already broken.

Does your comment above indicate that you think we might actually get to such a position?

Anonymous said...


Here's a proposition:

If the US money supply deflates faster than the world money supply, then prices for internationally traded essential goods will rise in US dollar terms.


Ilargi said...


Let' start with a big if, but that done, yes, that is a very obvious risk. Still, since you mention international trade, that automatically brings up the prospect and/or condition that nobody wants a currency.

If a currency is in demand, it may still suffer deflation, but not at a steeper rate than others, more likely less steep. And there are plenty folks who swear the USD will rise compared to other currencies.

I find it a hard call; I don't see much future strength in the dollar that could increase demand, but then again, i see no other currencies either with much strength. Nobody will trust much of anything anymore, sort of a deflation of faith.

Which in turn may do a lot of damage to international trade to begin with, even before energy decreases start to make the world a lot smaller.

Stoneleigh said...


Yes, I do think getting to that position is possible, in fact probable, although it may take a while to get there. I agree with you that currency hyperinflation wouldn't happen otherwise.

I don't generally lose any sleep over the possibility of hyperinflation in the future as getting through the period of credit deflation is my immediate concern. As deflation supports depression and depression supports deflation, that phase could last for quite a while. I would expect it to lead to a collapse of international debt financing and global trade.

As for the dollar, I think it has bottomed for now and is in the initial stages of a significant rebound. I think we'll see it surge on a flight to safety, probably in conjunction with a deflationary crash (which is not too far off IMO).

Domestically there should be a huge demand for scarce cash to pay debts and cover living expenses in the absence of rapidly disappearing credit. Internationally, relative valuations depend on which currency is deflating the fastest as you say. I would expect the yen and the dollar to rise as the carry trade unwinds and investors seek a safe haven. I would expect the euro to fall significantly, and ultimately to fail as a single currency amid European balkanization, although that may be some distance in the future.

Bigelow said...

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Anonymous said...