Something Fishy Is Going On: Inflation Or Deflation?

March 11, 2015

The stock market in the US has been hitting record highs (if you omit the last few days), the economy is expanding due to the Fed’s easy money policy, and employment is growing. Under these circumstances, you would expect inflation to be increasing, yet the opposite has occurred. What’s going on?

In Europe, You Pay to Lend. Crazy!

In Europe, they have little to no economic growth and they are experiencing a very curious situation. Many countries there have negative interest rates. For example, if you buy a 2 year bond in euros from the German government, at the end of that time period they will return LESS money to you than you lent them. Not only will they NOT pay you any interest, they will charge YOU for the privilege of lending them money. These types of interest rates would imply that a deflation scenario is likely to be experienced.

Why are interest rates negative in many places in Europe? Why is inflation nonexistent in the US, even though we are experiencing solid economic growth? The answer: China!

Here’s Even More Craziness!

The US dollar has appreciated recently; while our Federal government runs an incredibly huge budget deficit, and we experience a massive trade deficit, the dollar goes UP in value. Yet, the Europeans are lowering the value of their currency as well as the Brazilians. Why? To make their products cheaper, so they can sell us more.

The Chinese? The love an appreciated dollar. This allows them to sell even more to us!

America: Wake Up.

The increase in the value of the dollar will only make our trade deficit worse. And now there’s all sorts of speculation on when, not if, the Fed will raise interest rates. If they do, that will increase the value of the dollar even more, creating an even bigger trade deficit. We need some common sense in Washington. It would seem that China is conducting our trade policy. Our politicians? They seem to represent the Chinese government better than they do us!

How Do We Compete?

All in all, inflation is dead in the USA and deflation is entering Europe. Instead of needed structural reforms to get our economics competitive with China, both the Europeans and Americans are using monetary policy. That’s not a sound fix.  Until we don’t recognize that China is whipping us all, things will get worse. Just like Uber disrupted the taxi business, and airbnb has caused great pain to hotel chains, China is taking business away from Europe and the US. My hunch is that we will experience some deflation as a result of China’s trade success. Therefore, what investment strategy should one follow? Pay down debt, increase your cash flow, and don’t make any large investments at this time. If you can, increase your cash holdings by selling appreciated assets.

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The world’s gold supply increases by 2,600 tons per year versus the U.S. steel production of 11,000 tons per hour.

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