Perceived Inflation Pressures Are High

Last week, I presented an article on real versus perceived inflationary pressures. The reality (for now) is that inflation is low; the perception is that inflation is just around the corner.

This week Dr. John Hussman, who is a must read for any serious student of the markets, essentially echoes a similar sentiment. (As an aside, I want to state that I am no Dr. Hussman, yet I like his writings and insights very much, and I thought this would be a good time to share that with my readers who are not familiar with him.)

In his article, “The Destructive Implications of the Bailout - Understanding Equilibrium”, Hussman writes:

“by transferring wealth from those who did not finance reckless loans to those who did - providing monetary compensation without economic production - the bureaucrats at the Treasury and Federal Reserve have crowded out more than a trillion dollars of gross investment that would have otherwise have been made by responsible people in the coming years, shifted assets to the control of those who have proven themselves to be irresponsible destroyers of capital, and have planted the seeds of inflation that will cut short any emerging recovery.”

These are our percieved inflationary pressures.

Hussman goes on to state in bold print (for emphasis I presume):

The bottom line is that the attempt to save bank bondholders from losses - to provide monetary compensation without economic production - is not sound economic policy but is instead a grand monetary experiment that has never been tried in the developed world except in Germany circa 1921. This policy can only have one of two effects: either it will crowd out over $1 trillion of gross domestic investment that would otherwise have occurred if the appropriate losses had been wiped off the ledger (instead of making bank bondholders whole), or it will result in a stunning and durable increase in the quantity of base money, which will ultimately be accompanied not by a year or two of 5-6% inflation, but most probably by a near-doubling of the U.S. price level over the next decade. As I’ve noted previously, the growth rate of government spending is better correlated with subsequent inflation than even growth in money supply itself, particularly at 4-year intervals. Regardless of near-term deflation pressures from a continued mortgage crisis, our present course is consistent with double digit inflation once any incipient recovery emerges.

With regards to our inflation indicator that assesses the strength of the trends in crude oil, gold, and 10 year Treasury yields that actually ticked down at the end of last week. See figure 1.

Figure 1. Inflation Pressures/ weekly

Nonetheless, with crude oil plus 5% today, with stocks up over 2.5% today, and with 10 year Treasury yields up over 2.5% today, the message is clear: whether inflationary pressures truly exist or not is another matter. The perception is that inflation does matter, and a stock market that has been pumped up on steroids (i.e., liquidity) will likely remain vulnerable to selling pressure when the trends in crude oil, Treasury yields, and gold are strong.

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