Pennies and Dimes and the 99%

It was this time last year that I fell out of love with London.  I was staying in a three story walk-up flat, in Kensington.  Close to shops, tube, and some great pubs.  And walking distance to the Chelsea Flower Show and Q&A amongst other museums.  From my bower window I could sit in the afternoon spring sun and watch the pedestrians far below, hithering and thithering.

Kensington was dirty, and the people grasping.  The young women wore stiletto heals that were reminiscent of the foot binding days of the Chinese.  All the shops had sales, although I am not a shopper, it was noticeable that along the strip the retailers were doing it tough.  Clear signals of a weak economy. 

The fact that it rained most of the week could have also contributed to my gloom.  In one day alone we had boiling heat, torrential and flooding thunderstorm, hail, and a wind storm.  

Across the street from my flat, and a floor lower was a gorgeous apartment.  Decorated and furnished in the old English style it was immaculate, with real old world charm.  The curtains were always open as though the owner was inviting people to glance in and admire.  

The owner himself was of old world charm style, an English gentleman.  Maybe ex military, because he stood tall and ramrod straight despite his clearly many years, and groomed to within an inch.  

As I sat in the evening, it was the only time I saw him, despite having a clear view the entire length of his apartment.  At that time, he would sit beside the window and read the paper, on occasion leaning into the window as the light faded, holding up the paper.  

Maybe I am slow, but it took a few days to realise that he was using daylight to read by rather than turn on an overhead light.  And further, that I at no time when glancing out the window saw lights – either overhead or from a flickering TV – in the evening.  In the kitchen, I only ever saw tin cans on the bench, despite the inviting décor.  It took me a little time to understand that all over London some, like this elderly gentleman living in a million pound apartment, and others less fortunate, were not turning on the lights nor cooking, because they couldn’t afford it from their income.  I wasn’t just the poorer demographic.  The seemingly wealthy were suffering also.  

And maybe like this gentleman, they lived a proud existence, and told nobody for the shame.

I have written about inflation and ivory towers, in which I suggested that the governments would soon (and again) be adjusting how they measure inflation to grab back money on say, pensions.  Inflation is a number on which the whole world spins, whether measuring real investment returns, pensions adjustments, or planning for future expenditure.  

And that the western economies are experiencing stagflation, whereby the cost of essentials – food, water, energy, healthcare – are rising faster than the income on which we rely to meet these essentials.  And I don’t see how it is going to be any better for decades.  (I took my own advice and bought a farm.)

Then a month ago there was this extraordinary article, as if to prove me completely correct.  So that I am sure you have the benefit of reading it (and the following comments) here is the link in full.

http://www.bloomberg.com/news/2012-04-25/chained-cpi-switch-is-a-slam-dunk-even-in-election-year.html

I learnt various things from this article.  First, that Bloomberg now had its own editors publishing editorials.  When did that happen?  Second, that they also posted comments about an editorial.  Again, since when?  Third that Bloomberg is still getting its facts wrong.  Evan when written by the “editors” themselves, whose primary role is, after all, to edit the facts.  

Here is the opening line:  “Sadly, Congress and the White House seem incapable of agreeing on substantive measures to tackle the $10.4 trillion mountain of U.S. debt.”

Now the interesting thing about that line, is that the US debt is in fact US$15 trillion, because I looked it up on Bloomberg.  

The article then goes on (the “slam dunk” in the heading is a tip to its quality) to say that the government should switch to a Chained Inflation measure rather than the standard measure used today.  

Chained inflation is a measure, that reputedly tracks changes in consumer purchasing behaviour.  The example they use is that when the price of a granny smith apple rises, the consumer switches to the lower cost red delicious apple.  

Now, for sure you are getting the drift.  As inflation on food essentials (as an example) keeps rising, people will continuously switch to lower and lower cost products.  Cat food comes to mind, as it did to the many commentators who overwhelmingly mocked this article.  Dog bones anybody?  What inflation?

The “editors” suggested that this would save the government US$300 billion over ten years.  No suggestion how this was going to pay down the debt.  And at 0.2% it isn’t even enough to pay the interest on the debt. 

And you guessed it, the savings came from:  social security and cost of living adjustments;  pensions; and probably food stamp recipients.  The 99%. 

And again this turns to a continuing theme in this blog – penny and diming the 99% whilst the 1% carry on.  As pointed out in prior blogs, taxing the OTC derivative market, US$700 trillion and counting, just 0.1%, would raise US$700 billion.  And if the duration of the OTC market is 3 months, that would be US$2.8 trillion per year, or enough to pay off the USA debt in total plus a huge surplus using Bloomberg’s 10 year measure.  

Of course the USA is not the home to all the global derivatives, but probably a lot of them.  There would be quite a material amount in other financial centres such as London.  

And you guessed it, the Telegraph reports that that government is about to pennie and dime its citizens by adjusting how the RPI is measured.  That's the retail price index.

It reports “A reduction in RPI would save the Government up to £3bn a year on the interest payments it makes on index-linked gilts, but would also slash income for pensioners and those whose pay packages are linked to the measure.”

Like the pension for that charming elderly gentleman living in Kensington.  Or should I say, surviving, just! 

Biflation Triflation Miflation

Banging on about the current world experience of stagflation in this blog, (amongst other in the inflation tag line) it appears only rarely in the mainstream press, and even the blogosphere.   

Whatever it is that we are experiencing, framing the landscape is critical for setting investment strategies for investors and companies, and fiscal and monetary policies.  

Consider the current investment landscape.  If you are twenty years old, you need to know where to put your money for risk returns.  If you are fifty, you need to know where to put your money for capital preservation.  Indeed, in some issues written in this blog, sovereign diversity is one of the key issues whether through migration to growing countries (such as Mexico) for employment if you are young, or placing some of your savings elsewhere if you are older.  

To confuse analysis of what is written, there are arguments raging about, inflation, chained inflation, headline and core inflation, CPI and RPI, and of course my favourite, stagflation.  And all mean something different. 

Inflation, chained inflation, headline and core inflation, CPI and RPI are all manipulated by the government for budget boosting reasons.  So ignore them – other than a vicarious interest into what the majority of the investors are doing.  

Stagflation means (Wiki) the inflation rate (if it wasn't manipulated) is high and the economic growth rate slows and unemployment remains steadily high.  And that has been my position for some time.  But I have added deflating assets and also wage growth sub (true) inflation on the essentials.

And it is inflation in the essentials that is critical as written about here.  Food, water, shelter, health and education services, and important – energy costs.  

However there are some other inflation derivatives.  Biflation for example.  According to Wiki, first coined in 2002 by Dr F Osbourne Brown, it means there is a rise in the prices of commodity / earnings based assets (inflation) and simultaneous fall in the price of debt based assets (deflation).  Further:

“With biflation on the other hand, the economy is tempered by increasing unemployment and decreasing purchasing power. As a result, a greater amount of money is directed toward buying essential items and directed away from buying non-essential items. Debt-based assets (mega-houses, high-end automobiles and other typically debt based assets) become less essential and increasingly fall into lower demand. As a result, the prices for them fall due to the decreased volume of money chasing them. The decreasing costs to purchase these non-essential assets is the price-deflationary arm of biflation.”

Okay, got that.  And it does seem as though some of these criteria for biflation is being experienced today as well.  But not exactly spot on.  For example, mega houses and the assets of the uber rich (very high end brands) are doing very well.  It is the assets of the middle classes and poorer demographics that are deflating in the OECD countries.  So there is another element missing in biflation.

So I have invented a new term, which encompasses both stagflation, and biflation, with the chasm of the polarisation of wealth, and called it “triflation”.  Representing both aforementioned inflation derivatives but includes the effect on the economies from trickle down policies that is polarising wealth.  

Which as I have written elsewhere, ultimately gives rise to trickle up austerity, and then the next phase is “miflation”.  Another invented term to encompass what is being experienced today for the 99%. 

That is when the masses, impoverished through trickle down policies that give rise to stagflation and biflation, that in turn leads to trickle up austerity, eventually migrate to another country (again Mexico comes to mind) for food and essential services security.  

You read it here first. 

Buy Mexico?

Yesterday’s blog looked at the forecast problems of food and borders.  Specifically food inflation and how people will cross borders into different countries to obtain food security.

Tangentially, it also suggested that migrants from the USA could well be on the cards, given its rising food inflation and also low GDP and tragic unemployment figures.  Although not as bad as Greece and Spain – about which it is difficult to come to any conclusion how those societies will continue under such overhanging despair.

Then to this story, about illegal Mexican migrants returning from the USA to their home because the opportunities are greater in Mexico than the USA.  It reports that there were 12 million illegals, and over the five years to 2010 that number has fallen to 11 million.  One professor in the article refers to a net zero immigration for the first time since 1960.  Wow!!  And the 1 million is three times higher than the preceeding 5 year period.  There are some lovely stories in the article and worth a read.  Quite a bit about growing their own food as well, once they arrive home.  

However the article is interesting in other ways.  There is extensive research that shows that high immigration – or a high educated population growth – is a long term boost to an economy.  And that is what is happening as people return to Mexico, essentially.  And Mexico’s children per family ratio has also dropped, to just over 2:1 from 7:1.  This usually happens when you educate women research shows.  Per capita income is also higher as a result, as income and wealth rises.  And education is also rising.

All of which means that this is good for the economy.  And possibly good for long term investment.

And maybe I was wrong yesterday, when suggesting that Americans may be turning up in France!!  Maybe it is Mexico. 

Food and Borders

It is a crazy juxtaposition when the meat in USA is increasingly shifting towards ground beef (mince – burgers) as the hungry shift to lower cost protein;  whilst the meat shipped to the advancing countries in Asia is for steaks as the new middle class upgrade their protein meals.  

Updating the FAO Food Price Index for March, it is always surprising at how results are reported as “benign”.  It is quite correct to say that the March 2012 figure (216) came in barely above the February figure (215).  But as this graph shows, the index has grown by more than 14% per annum in the last three years.  That is not benign.

And of course the index over times shows that global food in both nominal and real terms remains near all time highs.  

Food prices remain critical for the world’s societal security and stability, which has been taking a beating lately (oh you know, the Arab Spring, Occupy, Mediterranean Austerity policies, and my household budget – if I had one).  And I have been banging on about it in my Peak food blogs, and inflation expectations.  

And all these issues have a real – meaning material – input into investment decisions these days.  Far more than they did in the past.  Not just as an indicator to investing in rural assets, or processors, or inputs (such as potash), but also where to put your assets so they will return a reasonable risk adjusted rate, but also protect capital.  My view is that a risk (including liquidity risk) and inflation adjusted return of zero percent with capital preservation over the next 5 years would be a winner in financial assets.  But the return on cattle is up near the 70% per annum.  With capital preservation.  Only subject to disease, which can be insured at a reasonable cost.  

In what countries will your investments be secure if food insecurity starts to rampage?

The CRB Index is down since the beginning of 2011, from a peak of nearly 700 (recorded peak) to 583 at present.  However, the pace of inflation in commodities since the mid 2000’s when it moved from about 250 (a cyclical high / range ceiling) to ~700 in 7 years.  

Commodities represent a significant input to the cost of food in developed economies, and to a lesser extent urbanised countries such as China, which recently passed 50% of the population living in urban centres.  By way of comparison, in the USA, the comparison is 82%.  Why?  Because food needs to be transported, requiring fuel inputs.  Crude oil is off its highs, but still at much higher levels than traditionally, when GDP is so soft everywhere.  

The Economist reported on the urban trends around the world here in January past.  So there are a number of issues pointing to food inflation rising faster than official inflation (which I do not believe for a moment) everywhere.  Increasing global population; shift to more dense protein diets by the new middle classes in the BRIC countries (less the middle classes in the so called advanced economies as their middle classes shrink – but at a slower pace); and rising urbanisation requiring greater input of fuel and energy for delivery and ag mechanisation to meet this growing need.  

In the USA food inflation in 2011 was officially 3.7% per the USDA and forecast to be 2.5-3.5% this year.  Right!   But this Bloomberg report suggests that corn and soy reserves are the lowest in years and could push food inflation to be at the higher end.  As I keep banging on – we have stagflation in the essentials:  food and energy.  

And then of course there is the other side of the story.  The USA’s food banks that feed the nations 49 million hungry people (16% of pop) are reporting they may be unable to feed these people due to higher food costs.  They argue that food inflation was 6% in the last 6 months of 2011 (putting the lie to the official rate), and that the healthy foods (fruits, veges, meat and dairy) provided to them fell 30%.  No wonder burgers are booming. 

And Sarkozy is complaining about the border controls of the EU member countries.  And of course picks on poor old Greece.  But zerohedge is reporting that this flow of immigrants are returning home, because frankly things are better there than in Europe.  Gate and horse bolted comes to mind, Sarkozy.  If you continue to impoverish the Mediterranean  countries with your austerity measures, border control done and dusted!

But the important point is that as the hungry grow, borders will become a problem.  Would Sarkozy be as tetchy if it were Americans arriving in hoards looking for work and a better life?  

Food inflation is going to change how we manage borders, how we manage safety within borders, and how we invest our savings as people and where we invest our capital as companies. 

Inflation in shelter also

A passing reference was made in yesterday's blog as to the cost of shelter, and its inflation in the face of revenues and income not rising as quickly.  This included rent increases, and mortgage spreads for purchasers.

As part of the commentary on stagflation, and referring to the critical issue of measuring the essentials of living to understand what is occuring in the world.  Whether it is for financing purposes, acquisitions, investment or just surviving, it is our position that stagflation is occuring in many countries around the world and should influence decisions.

Stagflation is when the cost of living inflates faster than GDP growth (on a per capita basis would be helpful). 

Then this is reported for the UK.  Through The Guardian, it is reported that homelessness has risen 14%.  Charities then argue that this does not measure all those people stumping up at home or staying with friends, but only the very lowest level of those requiring assistance with shelter.

And the Royal Institute of Chartered Surveyors also overnight reported that rental increases continue, as they have for a number of quarters, but fortunately at a slower pace.  10%. 

And the UK is reported to be entering a mild recession this year.  Oh dear!!

Essential Inflation Essentials

Stirring the inflation broth.  Riffling through its drawers.  And conclude the official inflation reporting regime is now irrevocably broken, and at best irrelevant.

And I do not mean as in Argentina, where the numbers are simply false.  There, they are reputedly reporting inflation of 10% and the real number is closer to 20%.  Or as the Telegraph reported, its inflation may be 2-3 times greater than that reported.  And it is not alone in my view. 

Official inflation is a critical number, more so than almost any other in economics.  It is used to determine “real” returns or growth in economies, stocks, bonds, property and households.  Investors, pensioners, savers and spenders all need to know the official inflation rate.  Evan when it is disinflation or even deflation. 

It has been about 15 years now that my view has been growing stronger that there is a problem with official inflation reports.  I wrote here about the difference between headline inflation and underlying inflation (sometimes called “core inflation”).  Put simply, underlying inflation seems to be becoming mainstream; as investors strip out the volatile items in official inflation to better assess the economy.  In their view.

Well that may be okay with the elites, but for the mums and pops, those “volatile items” are the day to day bread of life, literally.  The volatile items, usually include fuel, food, increasingly energy, you know, basic living requirements.  

Some could argue education is one as well.  Well all over the developed world there are millions of young graduates who can’t get a job as a cleaner.  

And it is my view (see previous blog) that many western economies have been suffering through stagflation.  Defined as, high inflation, low economic growth, and high unemployment.  It may not be rampant yet, but on a relative basis it appears to be everywhere.

And when I mention inflation, I mean inflation of the essentials:  food, shelter, water, warmth, health services, and of course air.  Availability of air, or oxygen, is certainly deflating in aggregate, as we pump ever more amounts of carbon into the atmosphere.  So that’s proven.  It is the critical cost of living issues that seem to be out of inflationary control. 

Please click on any of the graphs for a larger view. 

“The FAO Food Price Index (FFPI) averaged 214 points in January 2012, nearly 2 percent (4 points) up from December. The rebound represented the first upturn in the FFPI since July 2011 but the index remained 7 percent below its corresponding value last year.”  So says the FAO.  But any glance at the graph shows there has been a structural shift in the price of food of epic proportions.  And it remains around all time highs.  Indeed the index has risen 61% since the beginning of 2007 (where it was at a high, the ceiling of a previous two decade volatility range).  That is an average of 12% per annum over the past 5 years.  

 Hamburger anyone?  This is the price of feeder cattle in the USA. And I have published this graph before.  There has been a structural change in the price of beef.  By my estimate, 10% per annum over the last five years.

And the point here is that very very few people anywhere in the world have been achieving a 10-12% increase in revenue / earnings over the last five years.  Let’s call them the 99%ers.  Indeed, in the USA the growth of income is now below the rate of growth in spending (which itself is also way down relative to pre GFC).

Unless you invested in food commodities of course, as I wrote previously.

It is not just food:  price of crude oil continues to bubble.  In both the UK and USA, the price of fuel / petrol / gas (all very confusing) are at near all time highs.  That will also be a drag on the economy – one side of the stagflation equation.  Indeed HSBC have suggested that the “fragile economic recovery in the developed world could quickly be derailed”.  

As Ambrose Evans-Pritchard reports  in the Telegraph “The West has the disquieting experience of watching crude soar even as we languish in stagnation. This never used to happen…..  Rising utility costs have already raised the numbers of UK households in poverty from a fifth to a quarter.”

And the cost of shelter is rising as well.  Whether the cost of the home or rent.  Rents are high in many places around the world, and mortgage spreads are expanding if you can get finance at all.  Historically, in the decades before the GFC it was a rule of thumb that credit in developed economies grew at double the rate of GDP.  Today, in the credit crunch being experienced everywhere, and as banks attempt to improve profits, the spread between borrowing and lending has widened.  In the UK, and Australia, they are at highs not seen since deregulation decades ago.  And even if there is some credit growth, it “feels” like a crunch relative to those times.

I wrote in February that with the enormous quant easing occurring in Europe, UK, and the USA, and despite my comments above there will be significant increase in inflation as the money eventually rolls out of the banks into the general economy.  It is inflation delayed not averted.  And the global debt continues to balloon – as this graph shows.  And as global GDP continues to fall, the ratio is ballooning also.  

Since that blog others have also written of the dire warnings about forthcoming inflation; especially in the UK, they are commenting on hyperinflation.  And how dangerous the quant easing is to the economy.  And there was a call for it to end.  You see we haven’t been here before.  What happens if the inflationary genie really takes off?  Pulling all the excess money out of the system in response would create an economic shock.  Maybe worse than we have already seen. 

This excellent article in particular speaks of the significant increase in “essential items” in the UK and makes a farce of the reported inflation figure.  Water, fuel, etc have been in double digit growth for a number of years.  Ian Cowie’s article is called “Inflation ‘falls’ while the cost of living continues to rise: which planet are these economists on?”  Exactly my point. 

There is another way to measure stagflation:  with the unemployment rate plus CPI.  It is called the misery index.  However first you have to include the correct unemployment rate, and also the “true” inflation rate.  We can’t produce the graph because we cannot find that data.

Inflation should be changed to measure the real cost of the essentials of life.   Until then don't believe a word they say.