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The Worst Call of the Last 5 Years

We heard it a million times following the start of QE and the government’s stimulus package – high inflation was coming.  It was inevitable given all the “money printing” that was going on, right?  And when it didn’t come the narrative changed from “it’s coming” to “just you wait”.

Well, we’re now 5 years removed from the depths of the crisis and the Fed and the government’s extraordinary measures and the high inflation never came.  The bond vigilantes never came.  The dollar never crashed.  US Dollar denominated financial assets have beat the pants off of just about everything.  Interest rates never spiked.  The US government never turned into Greece or Zimbabwe.

5 years is a long enough time period to judge the predictions of those who called for a disastrous inflation.  And the predictions have been so far from right that you have to seriously wonder if many of these people are working from a proper operational understanding of the monetary system.  Of course, I would argue they haven’t been working with a full deck of cards.

I got to thinking about all of this as I read these two pieces in recent weeks about how bad these predictions have turned out.  It wasn’t me repeating myself again.  It was from Bloomberg and the Wall Street Journal.  They not only cite how much money was lost by traders who utilized this deficient framework, but they also cite how public policy has been directly hurt by these persistent calls for inflation.

This is huge stuff.  I think it calls entire forms of thought into question.  And it validates others.  Being right matters.  Unfortunately, in the world of economics and finance politics often trumps pragmatism.


  1. Frederick

    Cullen, I couldn’t access the site for the last few hours. Just thought you should know.

  2. tealeaves

    5 years back there were two loud camps – the inflationist and deflationist. At this point, neither of those extreme views worked out (though Europe and emerging markets look weak at this point). Both sides got it “right” that the central banks (and governments via deficit spending) would support the economy with a favourable monetary policy but I don’t think many thought they would expect this slow growth low inflation scenario.

    The inflationist got it right or were lucky in that assets (equity, commodities, housing, even tips) rallied from the 2009 low (but shorts on bonds and dollar would be a losing trade).

    The deflationist got it right or were lucky in that bonds and the dollar rallied (but shorts on assets and tips were demolished).

    The biggest suprise to me is that how one can have a “faulty” undesrtanding of how the monetary system and economy works and yet still get “lucky”. The other lesson I take from this is that these “extreme” positions (hyperinflation/deflation) are probably not very realistic investment thesis

  3. tealeaves

    And it seems the “story” hasn’t really changed that much. Today the most immediate question investors face (and oft debated topic) is secular stagnation (secular bear) or secular bull.

    The extreme deflationist still hold that the excesses of the debt bubble of 2000 and 2007 (and now 2009) need to worked off either through time or through regression to the mean correction with a multiple years of low PE. [Maybe housing today in the US fits that bill of deflation].

    The extreme inflationist are equity bulls that sees this central bank low interest rate and monetary policy (which they call currency debasement) as simply inflating assets by forcing investors in riskier speculation and thereby creating bigger bubbles. They have now latched onto “asset” inflation as the outlet of monetary expansion in place of commodity and price inflation during the last decade. Of course, they hold that this asset inflation will eventually materialize as price inflation which will lead to loss of confidence in the currency or interest rate spikes.

    There is a third equity bull who view that 2009 was a generational low and that domestic oil production and manufacturing, alternative energy and improvements in technology will power this secular bull market in the US.

  4. Geoff

    Funny nobody seems to be calling for hyperinflation in Europe after the Dragmeister’s recent, rather large QE announcement.

  5. John Daschbach

    Naturally many of these people use, and will keep using, the “just wait” argument.

  6. DevilsDictionaries.com

    The Euro Area has experienced an extended credit deflation:

    This is why consumer prices have been quiet. The same holds for commodity prices.

    However, there has been a great deal of monetary inflation:

    Stocks and bonds are expensive because of that. Another kind of inflation.

    Yes, it is possible to have deflation and inflation at the same time.

  7. tealeaves

    In the US the financial sector appears to be the sector that has undergone credit deflation but that is threatening to rise. The consumer, corporate have stopped deleveraging and are taking up the slack along with the government.

    The banks in Europe have undergone the most deleveraging to repair their balance sheets. And I wonder if the difference in the US and Europe private sector deleveraging is more the result of government policy choice (austerity) and the limitations of their currency.


  8. Jonah Thomas

    I think i want to ignore economic predictions more than 4 years ahead. One reason is that you can’t predict what the politicians will do 4 years ahead, and that’s enough to mess up economic predictions right there.

    Of course, unless you are ready to look infinitely into the future then it’s possible to paint yourself into a corner that you won’t notice until it’s too late. But I don’t trust anybody to know when they’re doing that even when they try to look far ahead

    If a politician does something that will have bad economic effects but not until more than 4 years later, then it means he got away with it. Likely as not some other politician will get blamed for it when the bad things happen.

  9. JGF

    A quote from the article:

    “after the Fed’s first round of bond buying pumped $1.7 trillion into the economy”

    There was zero change in net financial assets after the bond-buying, so if someone says the Fed pumped $1.7 trillion into the economy, should they also say the Fed sucked $1.7 trillion out of the economy?

  10. donthavename

    Is 5 years really that long of a time? If there is a major financial collapse within the next 2 years, lets go 20 years beyond that.

    Looking 20 years back at the financial crises, it seemed pretty obvious what was happening at the time. People in the know knew inflation was on the horizon, so what happened? Massive borrowing. Not only massive borrowing, massive borrowing only for the ones with the highest credit ratings(ie: the wealthiest and least debt ridden Americans and giant corporations). What happened with that borrowing? Most of it was used to buyback stock and run up stock prices so the average Joe thought the economy was in a recovery and CEOs and corporate executives maximized stock prices to the very end. Money was also used to purchase assets that would have value after an economic issue.

    Back to today:
    So far you are all correct. We haven’t had inflation. But if one day, you are wrong, the scenario I put in place sure seems to make a lot of sense. I am not a doomsdayer, I am just a dude who has a great credit rating and money in the bank and can’t get a decent amount for a mortgage. Rates at all time low, there isn’t a better time to borrow money and corporations are taking full advantage. Wealthy people are taking full advantage in their margin accounts and everywhere else. I wish I was allowed to borrow money like them, but I can’t and most of us can’t. Sounds like a pretty awesome system in place leading up to an inflationary event. Sure easy to pay that money back when the money comes in cheaper.

    The result of the QE is still in place right? Massive amounts of reserves for banks. I mean they are called “reserves,” sounds like someone is planning for a rainy day THAT HASN’T HAPPENED YET! So everyone that is so certain that QE didn’t cause inflation, all I ask of you is will you be right on the day those reserves need to be “used?”

  11. CWinslow

    I see the lack of inflation as failed policy, or arguably policy done “just right”. The GFC was a deflationary event that was combatted with inflationary maneuvers. Given that consumer prices have been remarkably stable, it “worked”. According to the book this should have been very inflationary but it wasn’t. We’re on the part of the map that says “Here be dragons”.

    However, the deflationary forces have not been addressed in structural terms and it seems to be seeping back out into the global economy.

    Draghi talked his way out of the euro crisis but did nothing to address the underlying problems. I don’t see that working a second time.

    The rich and powerful will “do whatever it takes” to maintain their status even if it means tearing everything down around them. I see all these interventions through that lens. Cui bono?

    In short, I think we’ve done a great job of putting bandaids on a brain tumor but the cancer is still there because the doctor decided it was in his own best interest to use bandaids.

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