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OpEdNews Op Eds    H3'ed 6/1/13

Deflation Smackdown

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Source: CounterPunch

Bernanke's Madcap Money Printing Fails to Boost Inflation

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"Under a fiat money system, a government" should always be able to generate increased nominal spending and inflation, even when the short-term nominal interest rate is at zero."~ Ben S. Bernanke, "Deflation: Making Sure It Doesn't Happen Here," November, 2002

The US economy is in a liquidity trap which means that the demand for credit is weak even though the Fed is increasing the monetary base (via the creation of reserves at the banks) and interest rates are at zero. This is a serious problem. When the private sector (businesses and consumers) reduces its borrowing, activity slows, output shrinks, unemployment rises, and the economy slips into recession. That hasn't happened yet, mainly because government fiscal support and transfers have kept growth in the black. 

But there are signs that deflationary pressures are starting to build. The consumer price index (CPI) has dropped for two consecutive months, revolving credit is showing new signs of weakness, and deposits at banks still exceed loans by a significant margin. Add the $85 billion across-the-board budget cuts, (sequester) and the prospects for a second-half double-dip look quite good. Here's a clip from an article in Reuters that helps to explain what's going on:

"Consumer credit recorded its smallest increase in eight months in March, a possible hint that Americans are still trying to pare their debts. ...Revolving credit, (credit cards) fell by $1.71 billion after rising $453 million in February. Credit from depository institutions fell in March...

"'Student loans have been the driver of any growth in credit to households,' said Julia Coronado, chief North America economist at BNP Paribas.

"Nonrevolving credit in March, which includes auto loans and student loans made by the government, rose $9.68 billion in March. That followed an $18.18 billion increase in February." ("Consumer credit posts smallest gain in eight months," Reuters)

So credit growth is flagging and Obama's contractionary economic policies have only made matters worse. It's clear that slashing government spending when the economy is still weak -- and the only areas of credit growth are student loans and subprime auto loans-- is pure folly. (Note: Economists estimate that growth would be almost 2 percentage points higher if Congress and the administration put off the tax hikes and budget cuts until the economy was stronger.) 

The decline in credit card usage further illustrates that working people are still in deep distress and cutting back wherever possible. Naturally, when consumer borrowing falters, aggregate demand weakens and companies scale back on business investment, which is apparent by the reduction in equipment and software purchases which slipped by 4.6% in the first quarter.

More worrisome, is the fact that consumer spending has gone up recently, even though the resumption of the payroll tax has reduced every American workers' wages by 2 percent. The impact of these cuts have not yet been felt, mainly because consumers have been digging deeper into savings and raiding their 401Ks to make up the difference. According to a recent study released by, "nearly one in five Americans admit raiding their retirement accounts during the past 12 months to cover expenses." (NBC News) Clearly, this pattern is unsustainable. Overextended consumers will eventually be forced to cut back in the second half which will further reduce GDP.

According to Bloomberg:

"The saving rate dropped to 2.3 percent in the first quarter, compared with an initial estimate of 2.6 percent. It followed a 5.3 percent rate in the fourth quarter. Disposable income adjusted for inflation dropped at an 8.4 percent annualized rate from January through March... the biggest decline since the third quarter of 2008." ("Economy in U.S. Grew at 2.4% Rate, Less Than First Estimated," Bloomberg)

It's all bad. Personal savings and disposable income are vanishing at the same time that desperate families are draining their retirement accounts just to scrape by and put food on the table. How long can that go on before something snaps?

And let's not forget the erosion in corporate profits. Earnings have been steadily retreating for the last eight quarters due to chronic weak demand which is the unavoidable result of high unemployment, flatlining wages and a tax and regulatory system that's blatantly-skewed in favor of the uber-rich. Check out this blurb from Zero Hedge:

"Morgan Stanley reminds us that corporate profits have been declining not for one or two quarters, but for two full years now. 'For net margins, March 2013 quarter-end results showed the top 1500 US equities at 7.15%, below the peak achieved in the June quarter of 2011. In fact, net margins have declined for the top 1500 companies every quarter since June 2011...'" ("The New Tapering Normal Optimism In Charts," Zero Hedge)

So, why are stocks at all-time highs when earnings and revenues are headed sideways?

Ahhh, that's the secret of the new financial alchemy, wherein equities soar to new heights on ho-hum economic data, historic levels of margin debt, massive stock buybacks and an ocean of central bank liquidity. Earnings and revenues are a thing of the past. Get a load of this:

"Aggregate Buybacks: Dollar-value share repurchases amounted to $93.8 billion over the fourth quarter and $384.3 billion for 2012 ... Dollar-value buybacks amounted to 79.1% of free cash flow on a trailing twelve month basis, which is the largest value since Q3 2008." ("Corporate Share Buybacks: How timely are they?" Mish's Global Economic Trend Analysis)

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Mike is a freelance writer living in Washington state.

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