10 Commodities that Are Going to Give Krugman Nightmares in 2012

Paul "There’s really nothing here to shake my view that deflation, not inflation, is the threat" Krugman is going to have nightmares in 2012. While Krugman talks about a "core inflation" that removes food an energy from it's index.The real core, that is the the things we really need to survive, milk, cattle, gasoline and heating oil, all soared in 2011 (see chart below). They are the real indication of what is going on with prices. We can survive without, at least for awhile, copper, lumber, zinc and nickel, BUT energy and milk fuel us, in one way or another, every day, and those are the prices that soared in 2011, along with gold,,  rice (+15.27%), peanuts (14.75%) coarse wool (13.58%) and potassium chloride(+27.89%). Given the money printing rampage that Bernanke has been on in recent months, none of these commodities are going to stop climbing in 2012, but most others will likely join them. Yeah, Krugman will likely pull urea (+30.20%) from his index, but when all other prices are climbing, he will have to resort to his smoothing tricks, to show that prices really aren't going up.

COMMODITIES YTD

	Last	YTD % Change
Milk	17.05	24.27%
Feeder Cattle	150.275	21.24%
Gas Oil	921.25	19.95%
Brent Crude Oil	109.27	15.32%
Heating Oil	2.9085	14.40%
Live Cattle	123.2	13.71%
Gold	1595.5	12.25%
Crude Oil	101.34	10.90%
RBOB Gasoline	2.6888	10.64%
Lean Hogs	85.75	7.52%

Source: CNBC Analytics/Thomson Reuters

China Bans Gold Exchanges

Here's another indication that the price inflation in China is much greater than the official reports of around 4.0%.

Gold exchanges in China outside of two in Shanghai have been banned, according to a statement from the the People's Bank of China, the Ministry of Public Security and other regulators. This is a clear sign of panic among government officials. Chinese people were protecting themselves against the inflation by buying gold.

Until this order, gold exchanges operated throughout China.

"No local authority, institution or individual is allowed to set up gold exchanges," said the notice dated December 20.

The statement also said that the Shanghai Gold Exchange and the Shanghai Futures Exchange are enough to meet domestic investor demand for spot gold and futures trading.

The PBOC said it would lead a team to insure that gold exchanges will be closed, banks will stop providing clearing services to them; and some people will be put under police investigation for possible irregularities at exchanges.

Things That Happen Every Sixty Seconds

Click on charts to enlarge.

And don't forget the biggie:

Every 60 seconds, Ben Bernanke increases the money supply by $1,660,958.91


(ChartsViaBarryRitholz)

Bernanke's Christmas Gift to Obama Has Arrived

Stocks hit a 5-month high on the last trading day before Christmas and new data on the housing market and with regard to unemployment suggest the most watched economic indicators will soon be flashing green for recovery.

This manipulated economic boom will, of course, cheer the President as it will boost his re-election bid, but, note well, most of the rest of us will all end up paying for the Bernanke inspired money goosed economy, with higher prices on everything.

Prices have been nowhere near Krugman's deflationary expectations. Over the last 12 months, the headline CPI index increased 3.4 percent. But this will look like happy days compared to what is coming. Stock players and tech and oil workers will soon start spending the money gains they are seeing. Money gains they have because they are first in line when Bernanke prints. They are going to be bidding for consumer goods against the rest of us---and they are going to have the money to do it. In other words, most of us will have to scrimp and budget carefully, as Bernanke printed money flows elsewhere.

So yeah, the macro-economic numbers will look good, but down deep we will all be paying for this central bank distorted economy.

Merry Christmas.

Am I Getting into Krugman's Head?

Bob Murphy emails:

Wow. Man I can't believe how much you are in Krugman's head. He hasn't stopped blogging about inflation.

Actually, in Krugman's latest post on price inflation, I agree with his main point. He writes:

One response of inflation-fearers to the absence of the inflationary outburst they’ve been waiting for is to reject the numbers, and claim that the BLS is hiding a much higher rate of inflation than the official numbers say. You see that a fair bit in comments, and some credulous mainstream figures (i.e. Niall Ferguson) have also bought into this story. How do we know that it’s wrong?

One answer is that people I know work with the BLS, and they really are doing the best they can. But that won’t convince the skeptics, since I am presumably also part of the conspiracy. Bwahahahaha.

Well, I know economists at the BLS,also, (in fact I am having lunch with one on Tuesday) and I would agree with Krugman that they are straight shooters doing the best they can. I have problems with "core" inflation, but the BLS provides all the data so that I can work back to get data in any format you want.

This is why when the major inflation hits I fully expect that Krugman will have to agree with me that the BLS is correctly measuring it.

One other curious point in Krugman's last inflation piece is that he posts a chart showing CPI and the Billion Prices Index. His point is that the CPI is moving in tandem with the BPI, which suggests there is no manipulation of the CPI number, since the BPI is taken from raw data and can't be monkeyed with. Point taken. But what I found interesting about the chart is that while Krugman continues to write that there is no price inflation. From the low point in the CPI and BPI indexes during the Great Recession to present, prices are up in the range of 8.3%. For a guy, like Krugman, who fears deflation, you would think this is a number he would want to explain.

Krugman Attacks Back with an Absurd Chart

In my earlier post in response to the Paul Krugman's attack on Ron Paul and me, I ran a chart of climbing CRB, which has been in big time ascent since the 1970s. Krugman has now responded to this by running this laughable "smoothed" inflation chart. He averages the percentage inflation growth over a three and four years, which then shows that the CPI growth has been under 4% since the 1990s.

Who the hell is Krugman trying to fool with this chart? 

This is what he writes about his chart:

One way to try to get past the noise is to use one or another definition of core inflation, which I think is necessary if you want to catch underlying inflation trends early. But to get a historical picture, it’s good enough just to use longish averages.

Since he snidely also comments that

And remember, ever since the Fed began expanding the monetary base in 2008, the inflationistas have been screaming that hyperinflation was just around the corner.

It appears that he is trying to insinuate that inflation hasn't been that bad. Well, let's unsmooth  Krugman's chart. Here's what really went down for the period that Krugman has "smoothed":

Prices have pretty close to tripled! The CPI index has climbed from 80 to 220 plus. Yet, Krugman by creating three and four year "smoothed" charts attempts to give the impression that price inflation is flatlining over the period at a relatively benign rate.

Further, as part of the "smoothing" he is also attempting to imply that his smooth line inflation rate is going to continue. He has no basis for this at all other than econometric voodoo that says the future will be like the past. I have written before about econometric voodoo. Part of the subprime mortgage crisis was because an econometric assumption was made that mortgage default rates would be the same in the future as they had been in the past. This despite the fact that a key factor had changed once mortgage syndication started. The originators under syndicated subprime mortgages got paid only for originating mortgages and did not care about the quality of the mortgages, since they assumed none of the risk. This factor was one key factor that resulted in a soaring default rate among subprimes. The hedge fund, Long Term Capital Management, is another example of an econometric assumption. This time about bond rates. They assumed bonds  would act in the future the way they did in the past. Boom! LTCM lost billions, when bond rates didn't act like they had in the past.

In the world of price inflation, a huge factor has also changed. Since the financial crisis, on a stop and go basis, Fed chairman Ben Bernanke has pumped new money into the system, at times, at the annualized rate of 25% plus. When the price inflation at the consumer level hits because of this money printing, it will be so big that it will  blow up even Krugman's "smoothed" 3 and 4 year charts. What do I expect him to do at that point?  Bring out posts for his loyal band of Krugmanites of 10 and 20 year "smoothed" inflation rates to "prove" that inflation is nothing to worry about. Don't worry, if he can sell Krugmanites on 4 year "smoothed" nonsense, when  the CPI has tripled during the period, he'll be able to sell them on 20 year "smoothed" rates, even when they are paying $50 for a cup of coffee.

Krugman Attacks Wenzel and Ron Paul

Paul Krugman links today at the New York Times to an earlier post of mine where I discussed Krugman's confusion about inflation. His reference to me is an attempt to get at Ron Paul. Krugman writes (The second link is to my post):

Now, Paul is unique among the GOP contenders, or for that matter among politicians in general, in making monetary policy his signature issue. So it’s worth noting that he is among those who have been wrong about everything in this slump.

Here’s a sample from earlier this year: Ron Paul: Gold, Commodity Prices “Big Event” Signaling Economic Collapse. Oh, and for fun: Understanding Why Ron Paul Knows More About Inflation Than Does Paul Krugman.

He then goes to post a screen capture which shows that commodity prices are down 3.63%, since May. He continues:

The second of those articles [my article-RW], by the way, predicts a surge in consumer prices in the second half of 2011. Not according to either the CPI or, for those who are convinced that the government is lying, billion price index, both of which show prices leveling off in the second half. But hey, there are still 17 days left!

Got that? He posts a commodity prices chart and then switches to a discussion of consumer prices. Here's the data for the increase, year over year, in the consumer price index for each month of this year:

2011-01-01 3.604
2011-02-01 4.708
2011-03-01 5.879
2011-04-01 6.808
2011-05-01 7.484
2011-06-01 7.439
2011-07-01 7.804
2011-08-01 8.200
2011-09-01 8.528
2011-10-01 7.793

Current CPI level 226.763

What you see is a steady increase in the CPI month after month the entire year, except for a minor slowdown in November and even smaller dip in May. As I regularly write in the EPJ Daily Alert, you never want to look at any specific data point but the trend. Which raises the question, Is Krugman making his entire anti-inflation case, at the consumer level, on the dip in one month's data point?

Or does he have a reading comprehension problem? In my post back in May, which he links to, I specifically call Krugman out on this:

The further problem with Krugman's analysis is that he mixes commodity prices with consumer prices...Headline inflation is about consumer prices not commodity prices. Because Krugman doesn't understand Austrian economics, he tends to aggregate all prices together. For him, all prices in the aggregate move together, which takes the richness out of the data. Austrians don't make this mistake. They understand that when new money enters the system, it enters the capital goods sector and the raw commodities sectors first. Only later, does it works its way to into consumer prices.

It is the inflation from earlier money printing that is now starting to hit the consumer sector, Krugman will never spot this by looking at commodity prices. Krugman has his eye on the wrong part of the ball park. He is watching the grounds crew move off the field and is not watching the stands fill up. He is declaring the game over before it even starts.

Got that? He shows a post of declining commodity prices, when I am discussing consumer prices.

But even with commodity prices, which are notoriously volatile, as the Fed prints and prints and prints more money. Prices go up and up, with minor violent pullbacks:

I don't know about Krugman, but I am grateful that price inflation has not increased at a faster pace. As the Austrian economists Ludwig von Mises and Friedrich Hayek taught the world is a very complex place, that's why we can never know for sure exactly when or how the massive destructive force of huge money printing will hit the price level in dramatic fashion. When a doctor gives a man dying of cancer 6 months to live, the man should not celebrate he has lived six months and a week. It does not mean he has been cured. It isn't that the Grim Reaper has forgotten about the man. It may take 7 months, 9 months or 11 months, but if the cancer continues to progress, the Grim Reaper will eventually knock all to soon at the door.

Helicopter Ben continues to spread new money as though the banksters need to use it for toilet paper. The price inflationary consequences of this will eventually be severe and make a fool out of Krugman's comment much  better than I can in this post.

UPDATE: Relative to the comments  a few of view have pointed out that Krugman's reference is only to today's plunge in commodities, which was 3.63%, and not the entire period of his chart which goes back to May. I apparently was giving him more credit than I should have, according to you guys. In error, I simply took the reference off the chart as being for May, which I shouldn't have, but if you think a one day drop in commodities proves anything, them I'll be sure to blast a chart the next time commodities climb in one day by MORE THAN 3.63%, for your amusement and pleasure.

As for my "lying" about the increase in the CPI, I link to the data, and call it data, not the percentage change, since I was focusing on absolute increase and not the percentage change. My point was that the absolute price level was increasing regularly. But, hey, if you guys are Krugman followers, I understand how you would only look at the surface of an argument rather than dig into the references that point out what data I was referring to.

Krugman Calls for More Inflation but Disses Those who Bring up Zimbabwe or Weimar

There's nothing like ending a work week with Paul Krugman calling for a good dose of inflation. At 5:18 PM, probably before heading out to a "Pass the canned tuna, you can't eat gold, meeting", he posted this call for inflation (and, btw, doubled-down on his view that we are currently under "depression conditions")

One thing I often see in comments is people attributing to me, or to others, the notion that you can inflate your way to prosperity — which is presented as self-evidently absurd.

Well, if you think that it’s self-evidently absurd, you’ve been listening to the wrong people.

Nobody thinks that an economy operating somewhere near full employment can inflate its way to higher output. But under depression conditions — which is what we have now — inflation is very much a positive thing.

This is a tired warn out model of a trade-off between inflation and unemployment. That is Krugman is still using the Phillips curve to defend his call for inflation. The damn thing was discredited decades ago. Here's Murray Rothbard, years ago, on the absurdity of the thing:

Every time someone calls for the government to abandon its inflationary policies, establishment economists and politicians warn that the result can only be severe unemployment. We are trapped, therefore, into playing off inflation against high unemployment, and become persuaded that we must therefore accept some of both.

This doctrine is the fallback position for Keynesians. Originally, the Keynesians promised us that by manipulating and fine-tuning deficits and government spending, they could and would bring us permanent prosperity and full employment without inflation. Then, when inflation became chronic and ever-greater, they changed their tune to warn of the alleged tradeoff, so as to weaken any possible pressure upon the government to stop its inflationary creation of new money.

The tradeoff doctrine is based on the alleged "Phillips curve," a curve invented many years ago by the British economist A.W. Phillips. Phillips correlated wage rate increases with unemployment, and claimed that the two move inversely: the higher the increases in wage rates, the lower the unemployment. On its face, this is a peculiar doctrine, since it flies in the face of logical, commonsense theory. Theory tells us that the higher the wage rates, the greater the unemployment, and vice versa. If everyone went to their employer tomorrow and insisted on double or triple the wage rate, many of us would be promptly out of a job. Yet this bizarre finding was accepted as gospel by the Keynesian economic establishment.

By now, it should be clear that this statistical finding violates the facts as well as logical theory. For during the 1950s, inflation was only about one to two percent per year, and unemployment hovered around three or four percent, whereas later unemployment ranged between eight and 11%, and inflation between five and 13 %. In the last two or three decades, in short, both inflation and unemployment have increased sharply and severely. If anything, we have had a reverse Phillips curve. There has been anything but an inflation- unemployment tradeoff.

In his post, Krugman has pretty much banned anyone who brings up the dangers of hyperinflation (since he only wants to inflate a "little"):

...you get an immediate failing grade if you start ranting about Zimbabwe or Weimar.

But how is Krugman going to deal with Rothbard's correct attack on the Phillips curve itself?

Central Banking and Israel

Mirand Sharma emails:

I remember your post regarding the central bank of Israel increasing their money supply by over 50% since 2009. 

Here is a video of what's going on in Israel now, of course not reported by our media:



Your original post is here.

Geithner to the Inflationary Rescue!!

The heavy US muscle is rolling in to make sure Europe gets its inflationary money printing act together.

The Treasury has just announced that Secretary Tim Geithner will travel to Europe December 6-8, 2011.

On Tuesday, December 6, the Secretary will arrive in Frankfurt, Germany, for meetings with European Central Bank President Mario Draghi and Bundesbank President Jens Weidmann. In the afternoon, he will meet with German Finance Minister Wolfgang Schauble in Berlin.

On Wednesday, December 7, Secretary Geithner will be in Paris, France, to meet with French President Nicolas Sarkozy and Finance Minister Francois Baroin before traveling to Marseille, France, for a bilateral meeting with Spain’s Prime Minister-elect Mariano Rajoy Brey who will be in France for other meetings.

On Thursday, December 8, the Secretary will visit Milan, Italy, for a meeting with President of the Council of Ministers and Minister of Economy and Finance Mario Monti. Later that day, Secretary Geithner will return to Washington.

Prepare for massive global inflation. You will never, ever, see oil under $100 per barrel again.

Mankiw: Print Money, Here, There, Everywhere

Harvard professor and the world's greatest economic textbook salesman,Greg Mankiw, has a solution for all the economic ills in Europe, the United States, and although he doesn't mention it I'm sure he thinks it could also work in Zimbabwe: PRINT MONEY.

If I understand the news coming out of Europe correctly, the new head of the European Central Bank is offering a simple deal: If fiscal policy becomes hawkish, monetary policy will be dovish. In other words, as government spending is cut to put European governments on a sounder financial footing, monetary policy will do its best to ensure that any adverse impact on aggregate demand is kept to a minimum.

That seems a sensible compromise, given all the competing risks. Indeed a similar deal might well make sense for the United States...My more conservative friends argue, based on monetarist principles, that a dovish monetary policy risks future inflation. In my view, however, there are bigger risks than inflation just now. They include prolonged high unemployment and meager growth.

I note Mankiw writes this as the economy is in a major manipulated turnaround mode, because Federal Reserve Chairman Bernanke is already printing like a mad man.  Mankiw fails to understand the turn, because his entire view of the economy is based on the flawed Keynesian "animal spirits" view of the economy. He won't see the change from his demand, demand, demand view until after the change has occurred. He doesn't get the causes of the change in the economy.

In the fifth edition of his textbook, Principles of Macroeconomics, (it sells marked down at Amazon for $156.49!), he references John Maynard Keynes on page after page, yet does not mention the economic theorists who developed the only business cycle theory where central bank money printing is considered at its entry point and explains what it does to the structure of the economy, Ludwig von Mises and Friedrich Hayek.

Bottom line: Although Mankiw and Paul Krugman are fierce rivals, in reality they are just two fish in the same Keynesian inflationist bowl, with only different stripes. They both love money printing and have no fear of inflation, despite the fact that inflation does nothing but distort the economy in favor of those who get the money first, at the expense of the rest of us. Krugman and Mankiw are thus nothing but apologists for the state and its evil printing ways.

Ron Paul's Reaction to the Central Bank Moves

Ron Paul tells it the way it is: In this CNBC interview, he correctly points out that we are bailing out the Greeks and it is a worldwide quantitative easing. The price inflation will come. He also explains why it is very unlikely he will run as a third party candidate.

Why the Fed Swaps, Announced Today, Will Expand the Monetary Base

Tony Crescenzi,Senior VP,Strategist and Portfolio Manager at Pimco explains how the swaps announced by the Fed will expand the Fed's monetary base:

[A]ny use of the Fed’s swap facility expands the Fed’s monetary base: all dollars, no matter where they are deposited, whether it be Kazakhstan, Japan, or Mexico, wind up back in an American bank. This means that any time a foreign central bank engages in a swap with the Federal Reserve, the Fed will create new money in order to make the swap. Use of the Fed’s liquidity swap line in late 2008 was the main cause of a surge in the Fed’s monetary base at that time. The peak for the swap line was about $600 billion in December 2008. Some observers will therefore say that the swap line is a backdoor way to engage in more quantitative easing.

Keep in mind that the monetary base is important, however, money in the base does not mean it is necessarily money in the economy. For example, most of the money created by the Fed in 2008,and up until recently, went into excess reserves and thus did not impact the economy. Bernanke may not be so lucky this time. If the money stays in the system and doesn't end up in excess reserves, the price inflationary consequences will be huge.. The money created by the swaps is being used to bailout Greek, Spain etc debt. That money is likely to end up being used to buy even more PIIGS debt, which means it will end up in the hands of the Greeks, Spaniards, etc. and not as excess reserves. German Chancellor Angela Merkel fought tooth and nail to prevent the ECB from .monetizing the PIIGS debt, so instead, Bernanke has stepped in to inflate.  Bernanke is playing with fire here and Americans are all likely to get burned with soaring prices.

HOT: Fed Announces Massive Global Central Bank Intervention

Developing...

UPDATE 1: The Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank have just announced coordinated actions to enhance their capacity to provide liquidity support to the global financial system.

UPDATE 2: According to the Fed, the purpose of the actions is to ease strains in financial markets and "thereby mitigate the effects of such strains on the supply of credit to households and businesses and so help foster economic activity."

UPDATE 3: The central banks have agreed to lower the pricing on the existing temporary U.S. dollar liquidity swap arrangements by 50 basis points so that the new rate will be the U.S. dollar overnight index swap (OIS) rate plus 50 basis points. This pricing will be applied to all operations conducted from December 5, 2011. The authorization of these swap arrangements has been extended to February 1, 2013. In addition, the Bank of England, the Bank of Japan, the European Central Bank, and the Swiss National Bank will continue to offer three-month tenders until further notice.

As a contingency measure, these central banks have also agreed to establish temporary bilateral liquidity swap arrangements so that liquidity can be provided in each jurisdiction in any of their currencies should market conditions so warrant. At present, there is no need to offer liquidity in non-domestic currencies other than the U.S. dollar, but the central banks judge it prudent to make the necessary arrangements so that liquidity support operations could be put into place quickly should the need arise, the Federal Reserve said. These swap lines are authorized through February 1, 2013.

BOTTOM LINE:Central banks have agreed on a major global money printing scheme. Major global inflation is on its way.

Is Bernanke Preparing to Double the Money Supply?

On June 15, I wrote a post titled, Federal Reserve Very Concerned About Double Dip Recession.

It was a riff off a WSJ reporter Jon Hilsenrath piece. The Hilsenrath piece sounded to me like the Fed was very concerned about the economy.

Three days later I reported on the drop in the ECRI Index and wrote:

The ECRI continues to be one of my favorite indicators for tracking the economy. It tends to be much more timely and accurate than government data. This sudden drop in the index suggests imminent trouble over a broad swath of the economy.

Based on a new report from Ambrose Evans-Pritchard, my analysis does not appear to be that far off from the reality of the situation. Pritchard writes:

Fed watchers say Mr Bernanke and his close allies at the Board in Washington are worried by signs that the US recovery is running out of steam. The ECRI leading indicator published by the Economic Cycle Research Institute has collapsed to a 45-week low of -5.7 in the most precipitous slide for half a century. Such a reading typically portends contraction within three months or so.

Key members of the five-man Board are quietly mulling a fresh burst of asset purchases, if necessary by pushing the Fed's balance sheet from $2.4 trillion (£1.6 trillion) to uncharted levels of $5 trillion.

To date, Fed asset purchases have not had much impact on the economy since banks have simply kept the money on deposit with the Fed as excess reserves. However, an addition of another $2.6 trillion in assets by the Fed would most certainly see some of, if not all of the funds, enter the system. Further, as these Funds enter the system, it could very well cause banks to start to put to work the trillion they have sitting on the sidelines. The money supply (M2)would explode.

If Pritchard is anywhere near accurate on his reporting here, and keep in mind that my analysis of the situation earlier this month seemed to be heading in the direction of Pritchard's report, then we may very well be about to head into one of the most inflationary periods in American history.

The only drag on Bernanke's mad money printing plan seems to be the presidents of the Fed regional banks, but Bernanke is doing what he can to dilute their influence. Here's Pritchard again:

[Bernanke and other Fed governors] certain to face intense skepticism from regional hardliners. The dispute has echoes of the early 1930s when the Chicago Fed stymied rescue efforts... Mr Bernanke is so worried about the chemistry of the Fed's voting body – the Federal Open Market Committee (FOMC) – that he has persuaded vice-chairman Don Kohn to delay retirement until Janet Yellen has been confirmed by the Senate to take over his post. Mr Kohn has been a key architect of the Fed's emergency policies. He was due to step down this week after 40 years at the institution, depriving Mr Bernanke of a formidable ally in policy circles.

Bottom line: If such an asset purchase campaign is launched, the inflationary ramifications would be extremely severe. You would see near immediate upward spikes in the stock market and gold. Housing would follow. Then the consumer price inflation would start. Severe double-digit inflation.

How likely is Bernanke to begin such a campaign?

I have argued in the past that Bernanke does not have the "trader's touch" that Greenspan had. Greenspan's money manipulations are largely responsible for the current overall downturn and the housing crash, but on a short-term basis, Greenspan had the "touch" to add just enough money to fuel the economy and not go stark raving mad on the money printing side.

Bernanke does not appear to have this touch, he swings from near zero money printing, as is the case now and also in the summer of 2008, to extreme money printing as was the case between September 2008 and March 2009, when the money supply (M2) climbed at annual rate of near 15%. Thus, a $2.6 trillion asset purchase by the Fed under Bernanke would not surprise me. The man swings extreme, and the current negative numbers on the economy, which I am sure he understands means major problems ahead, must scare the bejesus out of him.

The Fed has not started any major asset purchases, yet. But the situation needs to be monitored closely. Any indications that Bernanke is indeed conducting massive quantitative easing operations will mean that its time to get in aggressive inflation protection mode.

ECB: New Bond Program Essential to Policy Execution

The European Central Bank said Thursday its new program to buy government bonds on the open market was “essential” to ensure that its monetary policy continued to have the intended effect, reports WSJ.

“The Governing Council considers the…measures essential in order to ensure the effectiveness of the monetary policy transmission mechanism,” the bank said in its monthly report for May. “In particular, the measures will help to mitigate the spillover of increased financial market volatility, liquidity risks and market dislocations in the access to finance in the economy.”

Uh, no kidding. Money printing is the key to the madness. How much printing? It will be Tuesday's with the ECB to find out.

Details are likely to only be available in the ECB’s weekly financial statements that are published every Tuesday.

Is the Big Inflation About to Hit?

It's a little early to tell, but Bob Murphy has emailed me a very interesting article that points to a change in strategies by banks.

The article was written by Jeff Cox at CNBC. The key points to the article are:

Surprisingly strong Treasury auctions in March had help from banks, which normally stay away from such events.

Banks snapped up $5.7 billion of the total $34 billion auctioned in 10-year notes and 30-year bonds, providing demand for auctions that many analysts thought would flop....At the same time, bank credit fell 5.1 percent in the month and loans and leases dropped 6.4 percent, according to the Federal Reserve .

The pattern suggests that banks have been starting to put their large cash balances to work, but is not an indication that bank balance sheets as a whole have started to grow," Deutsche Bank said in a research note.

The suggestion is that banks are using Treasurys as a way to get some return on their money that they might otherwise reap from making loans.

That banks would get so involved with long-dated securities came as additional surprise since they aren't usually such active participants at auctions and generally buy mostly short-dated notes. Under normal circumstances banks don't have much interest in keeping long-term rates low as that could compress the yield curve and cut into the profits they could make on lending.

Yet combined with their purchase of agency-backed debt such as mortgages and student loans, banks bought a total of $40 billion from the Treasury in March, according to analysts at Deutsche Bank.

But there's also another less-obvious reason banks could be stepping in to the Treasury market: A type of tacit quid pro quo with the Federal Reserve to keep short-term rates low by helping the government finance its debt through Treasury auctions.

Art Cashin, director of floor operations at UBS, noted after the 30-year auction suspicions among traders about who was doing the buying. In remarks to CNBC, he spoke of "all manner of conspiracy theories floating around. Is the Fed putting on a fake moustache and a raincoat and coming in as an indirect buyer?"

While there's disagreement among analysts whether the actions are part of an explicit pact between the two sides, some suspect a gentleman's agreement in which both sides benefit.

"Banks are stealing money from the public, giving consumers zero percent interest on deposits, and instead of turning over risk to the over-indebted consumers, they're loaning money to the government," says Michael Pento, chief economist at Delta Global Advisors in Parsippany, N.J. "I'm sure it's at the behest of (Fed Chairman) Ben Bernanke—we're going to keep rates low but you must facilitate the Treasury auctions going off smoothly."

The Fed funds rate is near zero, meaning that banks can borrow at almost no cost and lend out at the prevailing rate—or invest in vehicles such as Treasurys.

The 10-year yield edged over 4 percent in the days after the weak March auction for the benchmark note but has fallen precipitously since then, trading around the 3.75 percent area and helping to keep government borrowing costs down.

Now, the fact that bank loans dropped during the period would suggest on first blush that the Treasury is crowding out the private sector, i.e. banks are buying Treasury debt instead of loaning funds out to businesses.

But, there is one other intriguing piece of data.

Excess reserves fell by $41 billion in the month of March. That is almost the exact amount that banks bought in Treasury and agency-backed debt. Does this mean that the banks are starting to move some of the trillion dollars in excess reserves they are holding and starting to pump them into the system? Possibly.

One other piece of data suggests that there is a countervailing drain going on somewhere. 3 month annualized M2 growth is actually negative, so I am not ready to sound the alarm bells just yet, but I am watching things very carefully.

What needs to be monitored is how much more Treasury and agency debt banks buy, any further down trends in excess reserves, and, of course, M2 growth. If M2 growth starts to pick up with declining excess reserves and banks buying government paper, it is a signal that we are headed into a new inflation phase. It means the Fed can't keep interest rates down, without sneaky inflation via getting banks to start using excess reserves. Again it is still early, and these numbers do move around a bit, but if a trend starts to develop over the next couple of months the early warning inflation alarm bell will have to be sounded.

A Look at the Economy Ahead

Even the Fed's seasonally adjusted M2 numbers are showing a decline.

At the end of August, preliminary seasonally adjusted numbers show a 2.3 % decline in 3-month annualized M2. In other words, the Fed is not providing any money to the currents stock market run. It is purely coming from money that has been on the sidelines. Once that is completely sucked in, it is all over.

It is, however, important to realize this Fed posture will not go on forever. How long the Fed can continue this no money growth stance is the big question.

WSJ may provides some clues as it takes a look at the Fed's balance sheet and notes (htNick):

The Fed’s balance sheet expanded again in the latest week, rising to $2.072 trillion from $2.069 trillion, but the expansion highlighted the recent shift in the makeup. The increase came solely from purchases of mortgage backed securities, Treasurys and agency debt. The Fed started a program in March to ramp up such acquisitions in order to push down long-term interest rates. All of the programs set up as emergency facilities to prop up the financial system posted declines. Direct-bank lending remains at its the lowest level since the collapse of Lehman Brothers. Central-bank liquidity swaps gave back last week’s increase. The commercial paper and money market facilities also dropped again and are at their lowest levels since inception, as companies decide to take their funds out and tap investors directly as sentiment in the market improves.

The increase in the balance sheet of less than one percent (.145% to be exact) is a yawner, unless we see many more weeks of such activity. More interesting is the shift in where the Fed is pushing money. The commercial paper and money market facilities are declining as assets for the Fed, while Treasury security purchases (along side MBS buying) are increasing. In other words the private sector is losing some fear by going back into commercial paper and money markets, which puts greater pressure on the Fed to prop up government paper. The public was holding government paper and the Fed was holding commercial paper, that is switching. The real battle for the Fed starts, when the Treasury continues to issue more paper and there is no one else to buy it, and the Fed has no more commercial paper, and the like, to liquidate.

For those anxious to sound the inflation alarm, that would be the time to sound the first alarm. That type of money printing, however, may not do much for the stock market as it will be directed at Treasury security purchases. And the markets are likely at that first phase of Fed money to act as though none was going on..

Bottom line over coming months, this is what we have to look forward to:

A declining stock market

A declining economy

At some point a resumption in inflation

Continued growth of the government sector.

And the worst of all possible worlds: Stagflation.

First up, though the declining stock market.

"They Are Going to Have to Call on Bernanke"

George Melloan takes a look, in today's WSJ, at the current financial markets and the money that will be needed to fund the "stimulus" package, and he reaches one conclusion:

The Obama administration and Congress will call on Ben Bernanke at the Fed to demand that he create more dollars -- lots and lots of them.

What will happen as a result of this money printing madness? Melloan answers this question:

Well, the product of this sort of thing is called inflation. The Fed's outpouring of dollar liquidity after the September crash replaced the liquidity lost by the financial sector and has so far caused no significant uptick in consumer prices. But the worry lies in what will happen next.

Melloan gets the inflation part correct, but then believes this will automatically lead immediately to stagflation:

Inflation is the product of the demand for money as well as of the supply. And if the Fed finances federal deficits in a moribund economy, it can create more money than the economy can use. The result is "stagflation," a term coined to describe the 1970s experience. As the global economy slows and Congress relies more on the Fed to finance a huge deficit, there is a very real danger of a return of stagflation

In our book this is a fundamental misunderstanding of stagflation. Stagflation occurs when the Fed prints enough money to fuel inflation, but not enough to force the economy completely in the direction of a distorted consumption/savings ratio. Because the Fed printing ultimately leads to inflation, more and more new money needs to be printed to flood the economic structure in a fashion to distort it in favor of the capital goods sector. If you need 15% money printing to support the distorted structure, but the Fed is only printing 10%, that will result in inflation and recession, i.e., stagflation.

At the present time, the Fed's double digit money printing appears to be more than sufficient to support a distorted capital structure, which will mean inflation and a climbing economy and stock market.

The Nobel Prize winning economist, Friedrich Hayek, who coined the term stagflation, understood this. Inflation itself, when it is powerful enough, will fuel the stock market higher. He said as much in his interview in 1975 on Meet the Press. Equities were the best hedge against inflation, he said. The 1970's, however, did turn into a period of stagflation, as the Fed printed money, but not enough to support the distorted capital structure. Thus, you had recession and inflation. The current period, at least in the short-term, appears to be a period when the Fed printing will be sufficient to support the distorted capital structure and thus, the current period is likely to be a better fit for Hayek's advice, then when he initially gave it in 1975.

India to Follow $2,000 Car with $20 Laptop

Scientists in India are planning to produce a laptop computer for the price of about $20, having come up with the Tata Nano, the world’s cheapest car at about $2,000, reports FT.

It's important to keep in mind that deflation is a good thing, it improves the buying power of a currency. That said, it should be noted that government is all about propping up prices. That's what the Federal Reserve is all about, and it is what the "stimulus" package is all about. The government is inflationist because they get newly printed money first, along with their "control's, the oligarch's. It's the average American that gets screwed by getting new money late in the game.