Monday, February 1, 2010

Inflation risk is heating up

This chart shows the market's 5-year, 5-year forward expected inflation rate. Today it is making a new multi-year high. Gold has perked up today as well, gaining $23 to $1104/oz. These facts square with the ISM's January price index reading of 70. Deflation is history, inflation is making a comeback. None of this squares with the skeptics' call for a double-dip recession or even 2-2.5% growth. The key inflation fundamentals are very accommodative monetary policy coupled with declining money demand. Money demand, in turn, is falling because confidence in the economy is returning; money that was hoarded when the outlook was disastrous is now getting put back into the economy. Check out my post last Friday on money velocity for more details. Every day the Fed delays a reversal of its quantitative easing is another day that inflation risk rises.

The market is not entirely unaware of this, as this next chart shows. Despite the Fed's continual assurances that short-term rates will not budge for a long time, the yield on 3-month T-bills has been rising. I don't want to make too big a deal of this, because the rise in yields is still miniscule, but all important changes happen on the margin, and this one looks like it's just getting underway. If bill yields continue to rise, the Fed will eventually get the message that it's time to tighten.


Benjamin Cole said...

Personally, I hope Bernanke prints money until the plates melt. We are a debtor nation, and need to pay down debt. We do not have the resolve to do that--but we can pay down our debt with cheaper dollars, the only nation able to do that.

Cheaper IOUs would also be a boon to commercial property owners and businesses.

A cheap dollar would help US exports and encourgae foreigners to buy US assets.

Print money Bernanke, more and more!

Brian H said...

Y'all will love this:

Great description of the Obama "Spending Freeze"!

W.E. Heasley said...

Mr. Grannis:

In your prior post regarding velocity you used M2 which reflects smaller transactions and based velocity on M2.

The stimulus plan’s social engineering expenditures (redistribution of income) are funds transferred to a recipient group that, generally speaking, immediately spends the monies on basic goods (rent, food, immediate necessities).

That the economics deployed by the likes of Jared Bernstein (the non-economist economist….the man from jobs-saved) is based in part on putting money into the hands of those that immediately spend the money and save no income for future consumption. Its an odd out stimulus theory that’s been around for years and championed by progressives.

These transfer payments and associated velocity have been in the background for over a year. Do the increased transfer payments create an artificially increased foundation for velocity? That once the economy begins to recover and the demand for money decreases, does this artificially increased foundation of velocity created by transfer payments magnify velocity?

Or is it merely all baked in?