[A-List] Stagflation is Here

["Jim Yarker" <sjy_estrien@xxxxxxxxxxxx>]

Stagflation is Here
Rodrigue Tremblay
www.TheNewAmericanEmpire.com
vendredi 25 janvier 2008



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War?after all, what is it that the people get ? Why?widows, taxes, wooden 
legs and debt.
Samuel B. Pettengill

"Armies, and debts, and taxes are the known instruments for bringing the 
many under the domination of the few.
James Madison, 4th U.S. President (April 20, 1795)

"Let me issue and control a nation?s currency and I care not who makes its 
laws".
Nathan Rothschild, 1791

***

Last summer, I observed that there was a "solvency crisis" underneath the 
ongoing subprime mortgage liquidity squeeze. Central banks can alleviate a 
"liquidity crisis", , but they cannot solve a solvency crisis. Last year 
also, before the events, I warned that the U.S. was heading toward 
stagflation. This was due to three fundamental factors. First, the 
structural fiscal imbalances of the federal budget in a period of 
prosperity, as a result of the Bush-Cheney administration?s continuous 
deficit spending linked to the Iraq and Afghanistan wars and to its large 
tax cuts ; second, the over-indebtedness of the overall U.S. economy coupled 
with an overall saving rate close to zero (in 1981, it was 12 percent), and, 
as a consequence, the rapidly increasing foreign debt of the U.S. ; and, 
third, the required decline in the U.S. dollar to reverse and correct the 
deteriorating American balance of payments. The second factor was a 
harbinger of less consumer spending in the coming months while the third 
factor would stoke the fire of overall inflation. And with already high 
budget deficits, there would be less leeway for an aggressive fiscal policy 
to sustain economic activity. The table was thus set for a bout of 
stagflation, i.e. slow growth and rising inflation.

Now, stagflation is here. ? Economic growth is slowing down, M3 money supply 
numbers, as a measure of overall liquidity in the economy, are in the double 
digits range, the yield curve has inverted and become negative (short term 
rates higher than longer term rates) and the U.S. dollar has become one the 
weakest currencies in the world. All this as American twin deficits (balance 
of trade and federal government budget deficits) are at record levels. ? As 
I pointed out last year, " A lower currency translates into more imported 
inflation and makes it difficult to maintain low interest rates," even if, 
in due time, it will improve the trade balance. This means that, for all 
practical purposes, monetary policy is also severely constrained in what it 
can now accomplish. For all of 2007, inflation hit 4.1 percent, which is 
two-thirds more than in 2006 when inflation registered at 2.5 percent. 
Moreover, the surge in wholesale prices announces even higher inflation in 
the months ahead.

With inflation being on the rise and real interest rates already in negative 
territory, aggressive monetary stimulus would likely be counterproductive, 
because too low interest rates would encourage capital outflows, pushing the 
dollar further down, and translating into more imported inflation. On top of 
that, one has to remember that monetary policy shifts take at least nine to 
twelve months before impacting the real economy. One has also to keep in 
mind that the U.S. operates, more and more, in an international environment, 
and is less and less capable of influencing the domestic economy by 
manipulating one variable only, such as the interest rate.

Of course, the Fed could have played a better preventive regulatory role if 
it had intervened in 2003-04 to reign in the unsound banking lending 
practices that have led to the subprime debacle. But the milk is out of the 
bottle now, and nothing can erase the damage done to the housing 
construction sector and other parts of the economy because of this lack of 
oversight.

After seven years of continuous indulging, of borrowing and debt building, 
the U.S. federal government is also in a fiscal bind and will find it 
difficult to effectively counteract the slowdown in the economy. Indeed, 
over the last seven years, the Bush-Cheney administration has run fiscal 
deficits on the average of $461.29 billion each year, for a grand total of 
$3,229 billion of cumulative of on-budget deficits.

This makes it harder to embark upon a new round of deficit spending to 
stimulate the economy. For one, fiscal policy shifts have even a longer time 
horizon before impacting the real economy. Secondly, the coming slowdown and 
recession will worsen an already high federal government deficit, as 
government receipts decline with the rise in unemployment and the drop in 
income growth. On the spending side, the Iraq war, in particular, is a black 
hole that siphons off more than $100 billion each year, with no end in 
sight. Oil prices are also very high, partly because of high world demand, 
partly because of geopolitical instability and partly because of the lowered 
dollar.

After seven years of foreign policy madness and of empire building on a 
mountain of debt, and of public indulging and private gouging, the financial 
crisis and credit crunch, the plummeting dollar, the high price for oil will 
all contribute to the 2008 economic slowdown, which is likely to turn into a 
recession, during the first half of the year, if it is not already into one 
since last December. The downturn in the world stock markets during this 
month is another clear indication that something is wrong, not only with the 
U.S. economy, but also with the world economy.

All that would seem to be very bad news for George W. Bush?s Republicans, 
just as it was bad news for the Democratic Carter administration in the late 
?70s. Indeed, over the last century, the U.S. economy has been in a 
recession four times in the early part of a presidential election year, 
according to the National Bureau of Economic Research. In each of those 
years ? 1920, 1932, 1960 and 1980 ? the party of the incumbent president 
lost the election.