Thursday, November 19, 2009

Deflation Watch (October 2009): Price Level Trends Relative to Past Debt Crises

This is another update (with October's data) to the series of posts on US price level trends that started with Price Deflation Today versus the Great Depression and Post-1990 Japan — Comparative Charts (which had data through July). The original post contains the most in depth discussion of the comparisons between the three episodes, so please look at that if you have not already.

I'm posting updated charts as the data is released each month, but for now since time is scarce I will keep the commentary minimal... I will have more to say if and when the current price level trends change more significantly.

October shows a minor increase in price level for many components of the CPI. According to the BLS much of this is energy and auto related, but while disinflation is still apparent when looking at 2009's trend, strong deflation has yet to reappear in any CPI components. The big question is if and when this will change. While I expect it will, time will tell.

These are my definition related comments from a previous post:
As noted previously, "deflation" is often discussed in broader terms than simply price level:
  • Contraction of money and credit (broad money supply)
  • Deflation in asset prices
  • Deflation in a representative "basket" of consumer and producer prices
  • Deflation in wages
The various measures are often somewhat correlated but they only track to each other loosely. In the Great Depression prices fell faster than wages, yet wages (along with asset prices) still fell enough to propagate the adverse feedback loop of debt deflation in which income falls but debt obligations remain at the same nominal level, increasing the burden of the debt. Deflation in asset prices (triggered by the bursting of debt-financed asset bubbles) generally precedes the other deflationary trends.
Some Relevant Current Articles
  • Apartment Rents "Plunge" in the West — The BLS rent measure still seems to lag reality.
  • More on Falling Rents — The rental vacancy rate is at record levels, pressuring rents and ultimately home prices lower.
  • Bill Gross: Fed on hold through 2010Pimco's Bill Gross apparently expects that unless we can sustain 5-6% nominal GDP growth over the coming years (a rate the economy is geared for) then debt deflation is likely to take hold. Unless I am misinterpreting these remarks, this is ominous, as true debt deflation dynamics would likely lead to an economy no one could deny was in depression.
  • What Stinkin' Inflation? PPI Edition — Breaks down the PPI changes in a useful graph. Food and energy increases dominated in October.
As I've alluded to in past posts, commodity prices have seemed far ahead of fundamentals. What's unclear is whether they will keep rising anyway, plunge again like in 2008, grind lower more slowly, or stagnate for years until fundamentals catch up. A crash or decline could feed through violently to CPI changes as in 2008, potentially amplifying other deflationary forces. A sampling of opinions include:
  • Nouriel Roubini, One on One: More Doom and Gloom"Well in commodities, I look at oil prices. They fell from $145 last summer, came down to $30 earlier this year and now they’re back close to $80. But if I look at the fundamentals of demand and supply, demand is down to 2005 levels, supply and inventories are at all-time highs. In my view, the movement in oil prices is not fully justified by the fundamentals."
  • Pig Farmers are Making Brent Nervous — on "pervasive" hoarding of metals by private speculators throughout China.
  • Goldman’s Global Oil Scam Passes the 50 Madoff Mark — On the ability of financial speculation in futures to drive commodity prices (the focus here was on oil).
  • Commodity inflation — James Hamilton asks "Why are the prices of so many commodities rising in an economy that seems to remain quite weak?"

Price Level Charts for October

CPI-U 12 Month Changes, 1999 to Present (US) (source: BLS)

(click on chart for a larger version in a new window)

BLS Summary Comments:
"On a seasonally adjusted basis, the Consumer Price Index for All Urban Consumers (CPI-U) rose 0.3 percent in October, the U.S. Bureau of Labor Statistics reported today. The index has decreased 0.2 percent over the last 12 months on a not seasonally adjusted basis.

The seasonally adjusted all items increase largely reflected advances in the indexes for energy and for new and used motor vehicles. The energy index rose for the fifth time in the last six months, advancing 1.5 percent as the indexes for gasoline, fuel oil, natural gas, and electricity all increased. The index for all items less food and energy rose 0.2 percent in October, the same increase as in September. The indexes for used cars and trucks and for new vehicles both rose sharply and together they accounted for over 90 percent of the increase in the index for all items less food and energy. The indexes for airline fares and medical care also increased, while the shelter index was unchanged and the indexes for apparel and recreation declined.

The food index also increased in October, rising 0.1 percent after declining in two of the previous three months. The index for food away from home increased slightly, while the food at home index was unchanged. Within the food at home group, the index for dairy and related products rose significantly, while the fruits and vegetables index declined for the fourth straight month."
16% Trimmed CPI

This chart of 16% trimmed mean CPI (generated from the Cleveland Fed site) removes the most extreme monthly price changes:

(click on chart for a larger version in a new window)

Consumer Price Index Trends: Great Depression versus Today through October 2009 (US)
(click on chart for a larger version in a new window)

Components of US Consumer Price Index (May 1927 - Dec 1937, Great Depression)

(click on chart for a larger version in a new window)

Components of US Consumer Price Index (Jan 2006 - Oct 2009)
(click on chart for a larger version in a new window)

Annualized 3-Month Rate of Change for Components of US Consumer Price Index (Apr 2006 - Oct 2009)
(click on chart for a larger version in a new window)

The above chart shows the rate of change (over a sliding three month period) of the components whose absolute price levels are shown in the previous chart. I also added the magenta line for shelter (even though it is contained within the yellow housing measure) to better show the effect of declining rents and owners' equivalent rents separated from other housing components such as energy.

Price Index Changes: Great Depression CPI versus Current PPI through October 2009 (US)
(click on chart for a larger version in a new window)

I added "Finished goods less food and energy" starting this month. It shows marked disinflation (and deflation for October, but that could be a blip for now).

Consumer Price Index Trends: 1990s Japan versus US Today (through October 2009) and US Great Depression
(click on chart for a larger version in a new window)

CPI in Japan (Jan 1980 - Jul 2009)

The peak of Japan's CPI occurred in October 1998, almost eight years after the stock market peaked, and Japan's notorious mild deflation has been in effect since then. A multi-year disinflation (of core CPI) leading to sustained mild deflation is one possible outcome for the US.
(click on chart for a larger version in a new window)

Factors Contributing to Deflation

The measures I've been showing here recently haven't changed significantly this month, so I'm going to skip updating them this time. I'll bring them back when there are noteworthy directional changes.


  1. Siiiigh! Time to hit the herring sauce even harder.

    Over $5 trillion in asset values disappeared out of the economy over the past two years. The majority of the money that the Fed has printed to offset that has simply circulated back through the banking system and been re-deposited by banks into the Fed as reserves, which does absolutely no good for heading off deflation. I keep pointing out to people that deficits don't matter in this scenario, that we could literally print $5 trillion dollars in greenbacks and buy $5 trillion dollars of U.S. bonds and create a stimulus program that would make FDR's ghost envious if we desired without having a single worry about either inflation or the deficit, and people look at me as if 1+1=2 is absolute heresy rather than being a fundamental law of mathematics (and by extension, of economics). It is to cry...

    - Badtux the Math Penguin

  2. Yeah BadTux (what a name :), the inflation and deficit hysteria is a bit surreal and depressing... I also find it particularly ironic that from a pure monetary mechanics perspective (i.e., psychology aside), quantitative easing is deflationary as it replaces higher interest paying bonds with lower paying reserves, reducing the income to the non-government sector (which is one piece of the larger chartalism topic I've been meaning to get to, among others).