Consumer Price Index July 2009 – Real Prices Down 6.6%

The BLS reports CPI data for July 2009:

The Consumer Price Index for All Urban Consumers (CPI-U) decreased 0.2 percent in July before seasonal adjustment, the Bureau of Labor Statistics of the U.S. Department of Labor reported today. Over the last 12 months the index has fallen 2.1 percent, as a 28.1 percent decline in the energy index since its July 2008 peak has more than offset increases of 0.9 percent in the food index and 1.5 percent in the index for all items less food and energy.

The official price decline over the past 12 months was 2.1 percent. That alone is unprecedented as far as I can tell. But let’s, as always, approximate real price declines:

Looking at the detailed table, one can see that owner’s equivalent rent (OER) went up by 1.7%. If we want to calculate the True CPI, we have to replace OER with the Case Shiller home price index, which most recently dropped by 16.8% over the year. If we do this, we get an overall price decline from 1 Year ago of 6.6%. (Last month’s release yielded a real price decline of 6.4%)

Not only are prices falling, they are falling at an accelerating pace. This a corollary effect of deflation, plain and simple. Some investors say we should expect inflation soon. Some expect it somewhere down the road and that it will me rampant. Most of them don’t dare use the D word, even though by all unconventional AND unconventional measures we are in the very midst of a massive deflation, not based on prices alone, most definitely not based on money supply alone, but first and foremost due to an ongoing and likely long lasting credit contraction:

Click on image to enlarge.

Since the peak in October 2008, total credit and loans/leases outstanding have fallen by $725 billion, a 4.3% drop. And this doesn’t even take into account the decline in outstanding bond prices and unfunded liabilities. It is, indeed, tough to ascertain whether there is a decline in the net present value of unfunded liabilities. Thus we shall ignore them for now. However, bond prices have definitely declined across the board.

If we conservatively assume, for the sake of simplicity, that those bonds have contracted by about the same percentage since October 2008, this would give us a total credit contraction of around $2.15 trillion since the peak.

On top of that, I don’t think that people are oblivious to the fact that there is absolutely no way that all social security and medicare benefits will ever be paid. Thus it would only be reasonable to conservatively assume that the present value of those liabilities has dropped by the same amount. This would almost double the total contraction to $4 trillion.

It is, on top of that, rather questionable whether all this credit is marked to market. I would say that all this number gives us at the moment is at the low end of the range. Meanwhile, the true money supply since then has grown by merely $170 billion.

Why is this so important? Because it shows us the magnitude of the deflation that we are in right now, a deflation with all its consequences on home prices, consumer prices, interest rates, and stock prices. And it gives us a solid foundation to understand why various investors and maintream journalists who continue to expect, fear, or hope for inflation anytime soon are way off base and will be proven wrong in the long run.

As far as a general mid-term trend one can expect based on this data, as far as certain asset classes are concerned:
Bullish: Treasurys, Dollar, Gold, (maybe) Silver
Bearish: Stocks, Corporate Bonds, Foreign Currencies (except for the Yen maybe), Soft Commodities

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5 thoughts on “Consumer Price Index July 2009 – Real Prices Down 6.6%”

  1. Bullish long term treasuries?

    If so, I think your arguments should directly go to the trash.

    Even though private lending is not increasing, it is currently being replaced by government debt or money. Yes stocks are risky, but the dollar is even riskier.

  2. “Even though private lending is not increasing, it is currently being replaced by government debt or money.”

    Government debt/money doesn’t even get close to the overall destruction of debt, especially marked to market. Did you look at the data I posted?

    Feel free to submit data that proves me wrong.

    Of course the US government’s actions are not helping the dollar, but you are assuming that other governments in the world are doing anything differently.

    If anything, UK and European governments are doubling down on what the US is doing, and then some. China is spending over 30% of GDP on stimulus. Japan has amassed the highest national debt to GDP ratio of all industrial nations during a massive destruction of private credit, did it create inflation? No. Did it prevent deflation? No. Did it destroy the Yen? No, actually the Yen has been rather strong during that experiment. Bond prices have soared.

    “If so, I think your arguments should directly go to the trash.”

    You may also want to look at my past calls I have made on Treasurys, gold, and silver:

  3. I do tend to believe the credit contraction/deflation makes sense and Japan’s experience does seem to bear this out. However, I have a question: how was Japan’s demand for / consumption of commodities affected during the slow deflationary period?

    Jim Rogers is not exactly a hyperinflationist, he just tracks supply/demand.

  4. @Caroline, fofoa says that “prechter is fundamentally sound” in his deflation thesis. CORRECT. Which is exactly why Bernanke and Co. are trying to reverse it by increasing the money supply! Because they believe deflation is destructive (not me, I agree you need it to rebalance). Now, isn’t the _most_ reasonable take of the situation is that since there are two opposing forces at work, that they will cancel each other out to some extent?

    So that we’ll either get milder deflation or mild inflation.

    Now, my own take on the matter is the question: is increasing the base money supply is the correct way to combat deflation (afaik it’s more or less the only tool a central bank has)? Because it seems that instead of going to economic expansion the money is fueling financial speculation instead.

    If you look at Japan, they have mild deflation and zero growth. Is this really that bad? (What are the Japan unemployment figures?) Krugman, no matter how idiotic he sometimes sounds, might be right in that Japan has avoided a catastrophic crash. On the other hand, the theses that you pay for avoiding the big crash by enduring many many years of zero or negative growth is probably right too.

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