Thursday, July 09, 2009

Inflation Vs. Deflation And The Race To Debase The Dollar

Wall Street boutique dealer, BTIG, circulated the following story from China yesterday a.m.:
Neptune Orient Lines Ltd., China Cosco Holdings Co. and 12 other container lines agreed to raise rates on Asia-U.S. routes, seeking to end a price war caused by slumping demand, overcapacity and "panic." The lines decided on a $500 increase for carrying a 40-foot box from Aug. 10 as a "voluntary guideline," the Transpacific Stabilization Agreement said in an e-mailed statement yesterday. The companies will also raise fuel levies and may add peak season surcharges, the group said. Container lines will try to raise rates again after an April increase collapsed amid rising competition and a 20 percent drop in demand, the TSA said. Spot market Hong Kong-Los Angeles rates have slumped to as low as $900, according to Lloyd's List, as U.S. retailers pare orders for Asian-made furniture and toys on weak consumer -spending. - Bberg
Today, the same dealer friend at BTIG circulated the following:
TOKYO (Nikkei)--Amid still-faltering exports, rates on container ships from Asia to North America have been dropped for the first time in three years, reaching six-year lows.

In just-ended negotiations with businesses, shippers -- including Japanese firms Nippon Yusen KK (9101), Mitsui O.S.K. Lines Ltd. (9104) and Kawasaki Kisen Kaisha Ltd. (9107) -- agreed to reduce rates by 20-40% for the fiscal year ending May 2010. The major reason is sluggish exports of automobiles and housing-related products from Asia to the U.S. in the wake of the economic recession.

The new rate on service to the U.S. west coast, such as Los Angeles, is 1,000 dollars to 1,500 dollars per 40 feet container. It is 2,300 dollars to 2,800 dollars for the Midwest region, such as Chicago, and 2,000 dollars to 3,000 dollars for the east coast, including New York.

Marine transport from Asia to North America started plunging around November last year and continued its double-digit year-on-year losing streak until April. Even though shippers have revamped routes and reduced services, there are still more vessels available than needed.

Major Japanese and overseas shippers bled huge red ink in the January-March quarter because of the harsh business environment for container ship operations. They intend to seek a rate hike if demand recovers for shipments to North America. A clause included in many contracts allows renegotiation for higher rates in the second half of fiscal 2009.
(The Nikkei July 10 morning edition)
These stories are directly in conflict with each other (or, perhaps, they are perfectly in sync with each other since there is little chance the cartel manages to keep all the participants in line). TILB forwarded those BTIG emails and posed the following question to a handful of friends: "Deflation or Inflation?"

TILB friend and Fed watcher extraordinaire, J-Thrill, responded as follows [bracketed statements are from TILB]:
The main thing holding back inflation now is low velocity/Money multiplier [i.e., banks are not lending/demand by quality borrowers is low]. If V/MM comes back with low interest rates = we’ll get 70’s inflation or worse. The Fed has expanded their balance sheet at an unprecedented rate and to the extent the debt they guarantee goes bad, it’s pure inflation. I think that money creation number is probably going to be 2 Trillion from loan losses.

In the early 80's, there was a similar capacity utilization deficit, but inflation persisted until Volcker stamped out inflation with higher rates and restrained M3. I think the low inflation during the 90’s was due to China’s massive low cost import increase to the U.S. and was a free gift to Greenspan (he concedes this). If (when) China’s [currency] strengthens and they continue to make better stuff over time, it will cause inflation for us, but a weak dollar should help our exports. The question is, do we really want to regain the position of the lowest cost tube sock manufacturer to “gain” jobs by killing our currency? I do not. When we start exporting cars to China, you should go long the dollar.
Please pardon a brief digression. As TILB has been known to say in real life (as opposed to the blogosphere), Americans worried about having lost jobs to China need not worry. What we have "lost" are the lowest returning, worst parts of the worst businesses to China, et al. We agree with J-Thrill: we do not want those "jobs" back; government edicts be damned. TILB much prefers our scarce resources be directed at higher value industries by the collective actions of the many rather than commanded toward lower value industries by the whims of a ruling elite.

Our government does not get it (nor do most governments). They think jobs can be saved by "protecting" our manufacturing base. Long run, this will kill jobs from a macro standpoint and lead to malinvestment of scarce resources (directed away from a natural, likely to be more productive use and toward an unnatural, likely to be less productive use). The jobs "saved" will be an illusion since it will cost other better jobs elsewhere (That Which Is Not Seen) leading to a less dynamic economy.

In any case, back to "Inflation or Deflation?" J-Thrill included the following fun graphs that layout the inflation/deflation back and forth quite well.

First, we have measured and reported Urban CPI actually hitting a negative number. - (deflation):

Here, we have capacity utilization at historic lows. - (deflation):

Here, we show the St. Louis Fed's report on the monetary base, which after growing slowly and steadily for decades has more than doubled in the past year (or, as we are wont to say, "it took 100 years to print the first trillion dollars and then it took a few months to print the next trillion; don't worry though, things are fine"). - (inflation)

This final graph shows that net exports have been very negative since the end of the early 90s recession but has corrected a huge amount in the last year (though still very negative). The graph does not clearly lead to a conclusion on inflation vs. deflation. However, it hints. You can extrapolate quickly that we have been sending hundreds of billions of dollars annually to foreign countries for years and years. Those foreign nations have been kind enough to provide epic amounts of low interest seller financing. Perhaps we'll pay them back with newly debased dollars? - (inflation) Further, it indicates that domestic demand for imported goods has fallen off a cliff (that's the reason for the recent inflexion rather than a burst of exports). - (deflation)