America Mired in Deflation; A Graphical Representation; The Keystone Speculator Inflation-Deflation Indicator Remains in DEFLATION

One topic creates far more controversy at the dinner table than religion or politics; the inflation versus deflation debate. Each side will highlight anecdotal evidence to prove their case. Inflationists tout high food, energy, oil, insurance and college tuition costs, as well as increasing home prices, while deflationists highlight long-term weakness in commodities (oil is weaker in recent weeks), lack of wage growth, falling Treasury yields and stagnant house prices to bolster their case. The flat to lower wages is very important. Inflation will not exist without rising wages; this is why you want to watch the wage component in the monthly jobs report the first Friday of each month. Wages remain flat so inflation remains on a milk carton (missing). The UK economy appeared to be in solid recovery mode but is now waning as realization sets in that wages are not increasing and noninflationary, or more correctly, disinflationary pressures are developing.

In the States, the US economy slipped back into Deflation in August according to The Keystone Speculator Inflation-Deflation Indicator. During the spring time this year into summer, the inflationists were on a roll. Oil prices were rocketing higher as well as energy costs and everyone took notice of the rising food prices at the super market choosing to eat spam instead of steak. The indicator was above 3.00 in the middle zone where inflationists and deflationists fight it out but the indicator never moved anywhere near inflation at 3.70 and higher.

This summer during July and August, the indicator drops into disinflation playing around between 2.90 and 3.00 due to the falling 10-year Treasury yields down towards 2.30% and lower and the dropping CRB Commodity Index under 290 and lower. Keystone's indicator falls into deflation in August which always creates a huge gasp of shock and surprise from the 95% or more of investors and traders that universally agree that deflation will never exist and inflation should be arriving any minute (due to the obscene Fed money printing).

Money managers parade across television and computer screens daily 100% guaranteeing that note and bond yields will move higher--and some have been promising that since late 2009. The consensus continues to have the Treasury direction wrong and stubbornly remains on the soap box for higher rates since, well, more time has passed and rates have to go up. That at least is the thinking but remember, there is no one alive now that traded through the Great Depression that can provide insight into this current epic and historic market period that perhaps only occurs at an 80-year-ish cycle period or multi-decades stock cycle period a la a Kondratiev Winter.

The Treasury yields typically move in the same direction as the equity markets since money usually moves from stocks into bonds and from bonds to stocks depending on risk-off, or risk-on, respectively. Higher yields (lower Treasury prices due to low demand) = higher stocks = a move towards inflation. Lower yields (higher Treasury prices due to high demand) = lower stocks = a move towards deflation.

In normal markets, copper and commodities will push and pull markets in the same direction but the central banker money overrules all market fundamentals. All price discovery is currently lost across all asset classes due to the near 6 years of central banker intervention. No one truly knows what any asset is actually worth anymore. As long as QE is in place, and it continues at $15 billion per month pending a Fed decision on Wednesday, 10/29/14, flooding the markets with cash, the stock market floats higher. The big upward move in commodities earlier this year is what created the inflation buzz. The CRB went from 275 at the start of the year to nearly 315 at the June peak so this move pushed Keystone's indicator above 3.00. Now the CRB collapses from near 315 down to 270 over the last four months; an epic -14% failure that quiets the inflationists.

The economy was in disinflation and deflation for much of 2013 but this did not have a negative effect on the stock market. The Fed's easy money funds dividend and buyback programs to pump stock prices higher nullifying regular expected negative market affects. In addition, the easy money is used to help fund M&A and tax inversion strategies. The free money is making the wealthy super wealthy since they own stocks at the expense of the middle class and poor that are knocking on doors unable to find a job. The Fed has created an elite society in America; the rich are richer and the poor poorer. President Obama is in full agreement with this direction since he appointed Fed Chair Yellen, Queen of the Doves, to the FOMC because she is a Keynesian that prints money to send the stock market higher.

The 10-year Treasury note price is used for the denominator of The Keystone Speculator Inflation-Deflation Indicator. The 10-year Treasury price is 100.9297 with a yield at 2.27%. The 10-year yield was over 3.00% to begin 2013, over 70 basis points higher. The CRB Commodity Index is 270.22. Taking a look at the numbers;

CRB/10-Year Price = 270.22/100.9297 = 2.68

Over 4.40 = Hyperinflation
Between 3.70 and 4.40 = Inflation
Between 3.00 and 3.70 = Neutral; Inflationists and Deflationists Battle
Between 2.9 and 3.00 = Disinflation
Under 2.90 = Deflation

The last time that rampant inflation existed was from 2006 into 2008 as the stock market peaked out. During the Fall 2008 market crash into early 2009, commodities collapsed and investors ran to the perceived safety of US Treasuries driving yields lower. The indicator collapsed into deflation in early 2009. Former Fed Chairman Ben Bernanke is labeled as a 'student of the Great Depression' and his main takeaway is that the Fed did not provide enough stimulus quickly enough to prevent the depressionary malaise that developed through the 1930's. Therefore, Bernanke fired the huge QE1 money bazooka in March 2009 to save the country from a deflationary spiral. As the chart shows, the quantitative easing programs did work sending the indicator up into the neutral zone headed towards inflation. Bernanke must have been proud with his chest puffed as he signed autographs. However, the US budget crisis and other economic softness created more concern in 2011 which led to the August 2011 stock market waterfall crash. 

In May 2011, the indicator was above 3.60-3.70 signaling the existence of inflation but it was very brief. The indicator peaked out in 2011 and quickly retreated (inflation was very noticeable but it did not have staying power) as the stock market collapsed. The Fed has received a lot of heat over the last few years for remaining worried about disinflation and deflation but the chart clearly shows the Fed is correct to worry. The only thing the Fed has been correct about is its concern over disinflation and deflation. The FOMC is likely monitoring a similar technical presentation as explained in this article which definitely shows a country mired in deflation with inflation nowhere in play despite the obscene Keynesian spending.

Since the 2011 peak, the indicator has moved steadily lower from above 3.60 down to under 2.70 (from neutral down through disinflation into deflation). The indicator signals deflation from August 2013 until January 2014. Chairman Bernanke announced QE1, QE2 and Operation Twist to stop the free-fall into a deflationary spiral from 2009-2012. In late 2012, the Fed threw the kitchen sink at the markets with the promise of QE3 Infinity, timed with the ECB's OMT Bond-Buying program, and also QE4 Infinity and Beyond (which replaced Operation Twist with outright purchases), when the stock markets were already somewhat elevated (the QE3 and QE4 pumps are now simply referred to as the ongoing QE3 Infinity program). This orgy of Fed quantitative easing, along with the BOJ bludgeoning the yen (sending dollar/yen currency pair and Japanese and US stocks higher), creates the bullish equity markets all through 2013 and into the September 2014 stock market top.  In addition, China, the BOE and ECB are all pumping the markets with easy money as well.

The current 2.68 reading is the lowest since 2009 sending a shiver down the spine that a Great Depression redux definitely remains on the table. Folks continue to tighten their spending to stretch family budgets. Purchases are delayed since store discounts are increasing and the item will be cheaper in a couple weeks (a hallmark sign of deflation). The wealthy, made wealthier by the Fed with obscene stock market gains are spending their winnings on luxury goods, high-priced real estate (creating a house price bubble), art, vintage cars and collectibles (all are asset bubbles). The central bankers threw the kitchen sink at markets over the last two years but the US continues to slip-slide into deflation anyway. Deflation is a powerful force and perhaps it needs to extract its pound of flesh. An over leveraged economy like 2006-2008 needs to result in failures so the slate can be cleared as capitalism dictates. Free markets and capitalism are dead since the government now saves companies from failure; especially the corrupt banksters that are in bed with the politicians. Society, especially the elite class, does not want to experience the negativity and pain associated with the cleansing side of capitalism. People only want to experience the happy side of capitalism. So the Fed tries to paper over the problems using time to an advantage but as time goes on, the chart above says the Fed's grand experiment is failing.

The lackluster action in the Baltic Dry Index (BDI) and shippers indicate a global slowdown is ongoing. Ditto the drop in commodities and weak copper. It is interesting to watch the power of the central bankers as they pump equity markets higher but without the global economy kicking into gear it will be all for naught. The debt created will only end with a more drastic fall from grace than late 2008 early 2009 since a healthy market bottom was never allowed to occur (free markets were destroyed as the bad side of capitalism was not allowed to take place to clear the market).

The pundits and analysts that say Inflation and even hyperinflation are at the doorstep are likely premature. Inflation and even hyperinfation is definitely expected in the years ahead but it may be years away still yet. Keystone is thinking that inflation will occur in sync with the 18-year stock cycle of 1964 (bear), 1982 (bull), 2000 (bear), and 2018 (bull). So the thought is that inflation and hyperinflation are perhaps two to four years away. Even if the 18-year stock cycle left translates a couple years, that would be 2016 still many months and a year or two away.

The expectation remains that Treasury yields should move sideways and even leak lower for the next year or three. The 18-year bear stock market cycle should raise its head moving forward for the last four years of its cycle (now through 2018). Judging from history, it would not be surprising to see the stock market down 3 of the next 4 years to finish the 18-year secular stock market cycle.

Deflation is nasty and will surely affect everyone's lives. Since prices drop precipitously in deflation, consumers do not spend money since next week the price will be even cheaper. This economic behavior leads to a stagnant and very sick economy with businesses closing doors due to the lack of demand. A downward deflationary spiral occurs since companies fire workers that are no longer needed due to falling product demand. Europe is on the verge of falling into a deflationary funk a la Japan's lost two decades. Long-time readers of Keystone's missives fully anticipated and expected the current European deflation to occur despite the consensus saying that deflation would not occur.

The structural unemployment problem remains in the U.S. and the current stagnant wage growth (wage deflation) reinforces an ongoing deflationary and disinflationary theme. Technology, computers and the Internet are huge deflationary machines. Robots continue to replace human's on the job. The GOOGL driverless vehicle technology already has trucks operating on the road in California for several months and only one accident has occurred--and that was comically a human driver that hit the driverless vehicle. Just think of the impact to the trucking industry. Trucks could transport goods driverless allowing companies to drop-kick more workers across the parking lot. The pattern of 'more tech--less human's' will continue. The structural unemployment problem will continue in the US for years and perhaps decades forward.

Companies are meeting EPS (earnings-per-share) by laying off workers and squeezing more production out of existing workers (as evidenced by flat to lower top line revenues for companies across all sectors). These deflationary signals are ignored in the media. At some point, everyone will have to utter the 'D' word, deflation, and show respect to the 900-pound gorilla in the room.

Watch Keystone's formula above, you can crunch the numbers to check on the indicator every few days. It is shocking to see equity markets print new record highs in recent months against a disinflationary and deflationary back drop. This behavior can only be chalked up to the amazing power of the central banker money-printing that now is low on ammunition and as the chart shows losing the battle against deflation.

Inflation is not in sight despite the inflation-deflation indicator moving a touch above 3.00 and the food, especially beef, prices running higher a few months ago. Corn and wheat prices have plummeted back to earth. Crops are set for record high yields this year so the food inflation will continue subsiding. The cheaper grain prices will bring down the cost of beef especially as herds increase after the culling due to drought one year ago. Stagnant wages in America will prevent inflation from occurring. When wages rise, that will tell you inflation is coming fast and Treasury yields will then rise strongly. As long as wages remain flat or lower, inflation will not exist. Think back to the last period of rampant inflation in 2006-2008; you were likely enjoying happy raises at work, right? And probably not so much from 2009 to present? Correct? Food price increases tend to be seasonal and weather-related and work through the system over time as is occurring now with corn and wheat prices falling. Fewer folks are complaining about high food prices anymore.

What does all the above wind-bag mumbo-jumbo say in a nutshell? The current answer to the ongoing inflation-deflation debate, is, Deflation; as much as everyone tries to fight it. So the deflationists have a solid argument ready for the Thanksgiving table. After nearly six years of obscene Fed and other central banker money-printing, the economy is mired in deflation proving that Bernanke's grand Keynesian experiment, blessed and implemented by Fed Chair's Greenspan and Yellen, as well as dovish Fed members such as Evans, may be tragically failing. Prepare yourself and your family by raising as much personal cash as possible and paying off debt. Avoid taking on new debt. Cash is king in deflation. History may repeat. The bums standing on a street corner holding a tin cup in the 1930's would ask a passerby, "hey buddy, can you spare a dime?"