Tuesday, April 2, 2013

Fed can’t completely stop the Kress cycle

Try as it may, the Federal Reserve can’t seem to patch all the holes in the leaky inner tube that is the U.S. economy.  While Fed chief Bernanke is credited for pumping up the deflated tire since 2009, each time he succeeds in patching one hole another leak takes its place. 

While all eyes are on the soaring U.S. stock market and rebounding housing market, few commentators have drawn attention to the remarkable weakness in the commodities market.  Consider that in the last 1-2 years bear markets of varying magnitudes have overtaken the markets for “softs” including coffee, sugar and cocoa.  More recently grains prices have taken a tumble.  Corn prices are in free-fall and wheat prices are also in steep decline.  The price of corn crashed recently when a USDA report revealed much higher corn supplies than the market anticipated.   

To make matters worse, deflation has again reared its ugly head in Europe as Cyprus became the latest victim of the European sovereign-debt crisis.  The revival of the deflationary scare in Cyprus has had a spillover effect on several countries and has resulted in falling stock prices across the euro zone.  Greece’s stock market has retraced more than half its gains since August while Spain and Italy’s equity markets have also recently stumbled.  The declining value of the euro currency meanwhile suggests that Europe’s troubles are far from over.

Adding to the difficulties in containing the global deflation problem is the threat of an economic contraction in China.  The governor of China’s central bank issued a warning over the country’s high inflation rate of 3.2 percent (as of February).  The People’s Bank of China also released a survey saying that 68 percent of the Chinese households believe that housing prices are “too high.”  The government is widely expected to tighten money supply in an attempt at curbing the housing market again.  This will have an adverse impact on the Chinese economy with possible spillover repercussions for the global economy. 

What’s making it difficult for central bankers to completely contain the deflationary threat is that the fiscal policy of several major nations is at odds with what Bernanke and Draghi are trying to do.  While the Fed and the ECB are committed to ultra-loose money policies, the governments of leading nations in North America and Europe have embraced austerity and/or fiscal tightening.  Such fiscal policies will only serve to counteract much of what the central banks of the U.S. and Europe are trying to accomplish in the way of re-inflating the global economy.  It’s like trying to mix oil and water – it simply won’t work. 

Since lawmakers are stumbling over their own feet in this matter we can expect that at some point – probably later this year – the momentum from the 2009-2013 financial and economic recovery will wane.  When it does, it’s only a matter of time before the downside pressure from the bottoming long-wave deflationary cycle takes over and reverses much of the gains of recent years. 

Governments, it seems, never can learn from the mistakes of the past and are indeed doomed to repeat them.

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