Reading the mainstream financial press, it seems like most people are still hung up on inflation.
But the way I see it, the immediate concern remains deflation. I just can’t see the conditions in place for serious price rises.
Here’s the timetable as I see it unfolding:
• First, a slow deflationary grind, for up to two years from now.
• Next, serious economic stimulus.
• Serious inflation around 2014/2015.
Now I know it’s difficult to get in a deflationary frame of mind when so many commentators are inflation-obsessed. But for the moment, that’s what we need to do.
Let’s think about the facts.
Deflationary forces are starting to mount
This month UK consumer price inflation (CPI) dropped, and I’m expecting more of the same. I think we’ve already seen the worst of inflation for the current cycle.
With sterling now more stable and commodity prices levelling out, we can look forward to some deflationary benefits, such as low mortgage rates.
Without an inflation problem, the Bank of England can keep rates low. In fact interest rate futures now point to late summer 2012 before a rate rise. As for me, I’m not even sure we’ll see a rise in 2012.
So where’s this deflation coming from? Well, there are tell-tale signs all around.
We’ve already seen firm evidence of deflation on the high street. The weekend press reported big sales declines from the likes of Halfords, B&Q and pubs group Mitchells & Butlers.
Cut-throat competition is driving sales volumes down. And I expect prices and profits to keep following down too. Things aren’t likely to get any better any time soon.
Hot off the press: Markit’s Household Finance Index (HFI) has just fallen off a cliff. Markit says: “The latest reading signalled that the rate of deterioration was just as severe as the survey-record seen in March 2009.”
This is important. The HFI tells us how consumers are feeling and if they’re likely to be spending any money. Not good news then.
And tomorrow there’s likely to be a bit more misery doing the rounds as we get to see UK GDP growth figures. I’m not expecting any growth at all over the last quarter. I’ve long held the view that 2011 would see us dip back into recession.
When two-thirds of your economy relies on consumption, you’ve got a big problem when consumers run out of cash.
George Osborne must be praying that the Bank of England steps up with a bit of stimulus to help out. And I’m sure they will. It’s just that it won’t come for a little while yet.
Don’t expect more QE any time soon
I can’t see the Bank of England doing any more quantitative easing (QE) until the next round of deflation and recession have taken their toll. What you’ve got to remember is that QE is highly unorthodox. It won’t want to hit the red button unless it’s absolutely necessary.
A stock market crash might do the trick though. A dollar or euro collapse might do it too. Any sudden and unexpected turmoil could cause the authorities to go nuclear. But without an ‘event’, we could be waiting two years for the economy to grind down before they turn on the printing presses.
That’s why we’ve got to learn to live with an economy in stagnation. Low interest rates, low growth and probably low inflation. And we need to be prepared for an ‘event’ that could spur drastic measures from the authorities.
I still say cash is the best policy. First, because I’m not that worried about inflation eroding its value. And second, because I want to keep some gunpowder dry for the day when the financial stimulus kicks off again.
I know it’s tough sitting on cash when all you hear about is how inflation is taking great chunks out of its value. But you’ve got to learn to ignore the whispering voices. Far too many investors are being suckered into risky investments in search of yield.
Though I’m pessimistic on the economy, I think there’ll be serious opportunities down the road. Patience is what’s required here. Think safety first. If I see any really good stock ideas, I’ll be sure to let you know.
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