The BOOM ahead

Hi all,

Ever the contrarian in my thinking, I am seeing increased evidence that we are about to get a round of inflation. For us investors it can be a double edged sword, as we can pay off our loans in deflated dollars, but have to put up with growing interest rates.

It is possible that we see over the next couple of years, a golden period of price increases(due to inflation) not unlike the late 60's/early 70's. During that time of exploding inflation, interest rate rises lagged the inflation rate.

In the US the fed reserve has told investors to "pin the ears back" when it comes to borrowing, by the following statement

"The
Committee judges that, on balance, the risk of inflation becoming
undesirably low remains the predominant concern for the foreseeable
future. In these circumstances, the Committee believes that policy
accommodation can be maintained for a considerable period. " (Fed reserve web page)

Given that metal prices and grain prices are in a strong bull market, oil prices that are maintaining a high level and could explode with the next "unexpected event" in the middle east, the ingredients are building for high inflation.(not to mention the budget deficit in the US)

During the early 70's when inflation was in the high teens but interest rates were in single digits, people were able to pay off their homes in a couple of years. At the same time those who had large sums of money in the bank found the purchasing power of cash crashing.

Also during the period of high inflation and rising interest rates, being in the stockmarket was the wrong place.(except for trading of specific situations). The DJIA in the US basically fell from 1966 to 1982.

Now while this is mostly relevant to the US, I feel that we follow them so closely that the same would probably occur here.

The BOOM?? well we may see a doubling in prices in a short period and then a redoubling within 10 years. During this period inflation could run ahead of interest rates(and while they rise fuel further inflation).

Any others see this a possibility of happening?? Please offer your opinions.

bye
 
Actually.. I heard an interesting thought from Danny and Paul Hanna last night..

1. The ABS suggests the peak time of expenditure in a person's life is 46 years of age.. This is when their income apparently peaks..

2. The peak of the Baby Boomer generation was 1961, in this year more people were born than in any time ever before in the history of the world..


Add 1961 and 46 together.. and you get 2007

So the suggestion being that 2007 will be the year when expenditure is at its highest point, ever. Huge inflationary pressure?
 
Interesting view Bill,

The RB is tasked specifically with maintaining inflation within a 2-3% band.

If it deviates from this band the governor loses his job :)

So the RB will not be shy in using interest rates to reign in runaway inflation.

if the situation gets too bad (ie inflation over 5%) the government will throw a host of other monetary tools at the issue.

So I do not see the situation you describing as being a probable occurrence - unless we see a significant change in government policy :)

Cheers,

Aceyducey
 
One thing I've commented on in the past, is the observation that the property cycle in Australia is normally a seven year event.

Over the last year , some people have taken to referring to it as a seven to ten year event but I wonder whether this is people reshaping things to fit with current events.

Given the last sydney peak was in 88-89 , and it's now 14 later ..
who knows, maybe we are in the middle of a "double cycle " with the long flat period in the 90's being a prelude to a double doubling.

Maybe the US fixation on avoiding depreciation ( fair enough ) , and keeping interest rates low while there is evidence the economy is starting to take off, will be the trigger for the economy over shooting , resulting in higher interest rates in 2-4 years time , in order to slow down an "overheated economy" at that stage.

If the economy does surge ahead, prices may well go up further, and if they do , then LB may well get his 30 % drop ..... when eventually the high interest rates bite.

Then again ...... who knows.

All I can do is plan for various possibilities and react accordingly.

see change
 
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Hi all,

Acey, I have a few thoughts along the lines that the RB doesn't have as much control over inflation as they like to think they have.
As interest rates start to rise, this in itself has an inflationary effect. The RB governor has a 3 year contract and is then retiring. Would he wish to be remembered as the governor who pushed the economy into recession by raising rates too rapidly by trying to curtail inflation that was due to "outside events"??

Would the government want to lose popularity by encouraging rapid interest rate rises to curb slightly higher inflation, leading up to an election??(there's always one just around the corner). Inflationary pressures start only being slightly higher then expand over time.

The fed reserve in the US is also responsible for keeping the lid on inflation, but they have stated that they prefer to see some inflation(and therefore risk higher inflation) than the alternative. They are prepared to hold the line on low interest rates, and my opinion is that our RB will do the same.

SC, Agree with planning for all possibilities. I see the possibility of an inflationary spiral growing, and must therefore take this into consideration. If(and it's a big if) the inflationary spiral unfolds like it did in the early 70's, the best course of action would be to go into as much debt as possible in growing assets.(houses for me)

bye
 
Bill,

I appreciate your thoughts. Definitely the RB doesn't control interest rates - they just attempt to give off the vibes that they do.

And all the government's tools to manage the economy are reactive and as prone to causing swings as dampening them.

However, I do not believe there is as much risk of deflation here as in the US, so there is not as much propensity to allow a little growth in inflation.

Once we see definite signs of a global boom (in past data,not simply indicated but actually substantial growth) I think we'll see the gauntlets come off and a bit more willingness for higher inflation here as well.

Cheers,

Aceyducey
 
Hi all,

Acey, I don't think we have to have growth, just the inflation. If we get inflation without growth as in the "stagflation" of the mid 70's, then the RB does not have much room to move.

bye
 
Bill,

So why do you feel we are unlikely to have growth.

Considering we've been the best performing OECD nation for a few years with a good consistent growth of around 3%, why should this suddenly fall and inflation take off?

Cheers,

Aceyducey
 
Originally posted by Bill.L


As interest rates start to rise, this in itself has an inflationary effect.


I think I know what you were trying to get at, but could you clarify it ?

Contractionary monetary policy (where interest rates rise) is also known as deflationary monetary policy.

It aims reduce the level of aggregate demand in the economy and therefore slow down the rate of growth of output.

One of the reasons contractionary/deflationary MP may be necessary is because of increasing inflation. So the net effect would not result in inflation.

edit : fix typo
 
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Actually, on thinking on this with XBen making the last point, the whole purpose of raising interest rates is to increase the cost of money, thereby reducing borrowings & decreasing the velocity of the circulation of money (reducing the money supply).

This is a tool used by central banks to REDUCE inflation. And the deflationary effects of an interest rate rise are much greater than any inflationary effects due to the need of businesses to pass on increased costs due to borrowing charges.

So raising interest rates is a tool for reducing inflation, not increasing it.

Note that inflation is perfectly capable of varying on its own without any change in official interest rates however.

Cheers,

Aceyducey
 
Hi all,

Interest rates and inflation an interesting combination, and despite the best of theories from economists, higher interest rates can be inflationary, especially if it doesn't have the desired effect quickly enough.

I think it was around the late 80's when "Mortgage costs" were added to the CPI instead of house prices. Now during the 90's the effect of lower interest rates has had a negative effect on the CPI. A rise in interest rates will add directly to CPI.

Acey, I didn't say we were not going to have growth, just that it is not necessary for inflation to occur.(Ask the Argentinians)

Everyone please note that all I am claiming is the chances of much higher inflation occuring have increased, not "It is going to happen".

Remember that economics is more art than science.

bye
 
Id love to post up a step by step for why thats not the case but I dont think it would have any benefit. You've got your own opinion, that great - without that we'd all be lemmings.
 
XBenX,

Speaking as one who doesn't have much idea about economics I'd appreciate your step by step explanation, if you have the energy.

John.
 
Well there are two ways monetary policy (MP) effects inflation.

1/. Indirectly - via its effect on aggregate demand (AD) + economic activity
2/. Directly - by influencing expectations.

In the example rates were rising - contractionary MP

How or why would AD increase?
How or why would economic activity increase?
How or why would expectations become more buoyant?

Not step by step but it should be enough.
 
Hi all,

I started this thread a few months ago, and since that time, I have seen nothing but increasing evidence that this scenario is possible.
CRB index is at a high level and rising.
US economy in "expansionary phase" according to Greenspan.
US rates on hold at low levels still during this expansion.
US dollar falling rapidly.

The above should bring about a round of inflation within the next couple of years in the US.

Because we are so closely aligned with the US economy(especially after the FTA), when the $US stabilises or rises against the $A, we will start to see inflation here too.(Especially if we get a high spending Labor government led by the new messiah)

Apart from the elephants from left field, anyone care to comment about the above??

bye
 
Whether they will actually "hold" their rates is debatable. I suspect not. As US consumer confidence grows and jobs are created, the economy will grow, inflation will kick in - and their interest rates will rise. But it should be remembered that starting from such a low base (1%), even a 400% increase in interest rates in the US would see their cash rate at only 5%.

The US dollar has fallen, but how much further can it go? As speculation of a recovery in the US grows, so too will international confidence in that economy and, imho, demand for their currency. A currency appreciation would be deflationary for the US (depending on their propensity to consume imports, which appears to be very high).

Of course the FTA has longer term implications, but it is not expected to come into force any earlier than later this year (it has to go through both countries political processes).

I wouldn't be too worried about a high spending labor government. We already have a high spending liberal government. They can afford to spend like crazy because they continue to tax the bejesus out of us all. And while we all know that the ALP has such a poor record when it comes to financial management that they couldn't manage an economy out of a wet paper bag, they remain commited to the current mantra of a "balanced budget over the course of the business cycle" and to keep interest rates "low".

In summary... do I think we are headed for anything more than "garden variety" inflationary pressures?

No.

The situation may be a little unusual, but it isn't off the wall.

MB
 
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Originally posted by Bill.L
Hi all,


Because we are so closely aligned with the US economy(especially after the FTA), when the $US stabilises or rises against the $A, we will start to see inflation here too.(Especially if we get a high spending Labor government led by the new messiah)

Apart from the elephants from left field, anyone care to comment about the above??

bye

Hi Bill.

My poorly educated guess is that is the US economy grows, the US$ becomes stronger and the AUD$ against the USD$ decreases.
More capital flows into US and less to AUD. This would help US CADeficit.
RB can hold our rates as is, as I don't think they want the AUD$ so high.
However, with AUD lower, prices of imported goods here increase, so demand decreases and less inflationary pressure.

And, there is a lot of public debt now,and supposedly it only takes a small rise in interest rates to slow the momentum for demand.

Mainly for this last reason I don't think inflation is much of a risk.

GarryK

PS No doubt xben or Pitt st will set me right.:p
 
Very interesting thread. I am forever amazed at how many of us rely on past trends, "the property market moves in 7 year cycles" etc. etc. Whilst one would be a fool not to research past trends in regard to inflation, interest rates etc. etc. Is not the most or one of the important considerations WE the investors are we not the ones who in the end influence inflation and interest rates. By looking at both this and the other property forum website it is clear that investors are at the moment scared of the uncertainty created partly by the media. As a direct result how many people have you heard say "I'm just going to sit back and see what happens for a few months". Im not an economist so I don't know the answer but what would happen if we all ignored the media and continued to invest with the vigour we have over the last three years?
 
1. I'm not an economist, and should all my predictions had come true in the past, I'd be much wealthier now.

2. IMHO the current US recovery is mainly fueled by the low interest rate, that creates a double effect of discouraging savings=promoting spending, and devaluating the USD to make US exports more attractive. Another push for the late recovery is the war in Iraq, again a double effect of government spending and the dissolution of "bad news".

3. I ask myself whether this leap is sustainable over time. How long and how deep can the Americans get into debt? How long can the deliberate devaluation of cash by the Fed fuel the Dow? And what is the critical point from which the USD starts to look shaky instead of "healthy devaluated" as it is now?

3a. Let's suppose the Fed keeps rates low till the spending/borrowing ability is stretched to maximum, and till the Dow has fully incorporated the de-facto devaluating cash savings, what next? What will fuel the economy from here? What will pressure already high prices up, and where the extra money will come from? No inflation here.

3b. Responsible reserve banks usually lift rates while economy is going upward to ease any slumps with future rate cuts. Will the Fed have enough momentum and time in the recent recovery to raise the rates, preparing for cloudier days? They have to lift rates before the upward trend is over, to keep it, but do they have enough time and isn't the low rate is its main cause? Isn't lifting rates in THIS recovery is like cutting the bough while sitting on it? No inflation if back into recession.

3c. BUT, the devaluating USD, from some point, can push up prices of imported goods, and also make American assets - real estate as shares, more attractive to foreign investors - i.e. fueling nominal USD inflation. But isn't there enough foreign money already in the US (seeking stability and not value)? And will those new money streams be sufficient to increase prices for 400 million Americans? Don't know for sure, but don't think so.

4. So, IMHO there won't be inflation in the US soon.

How it affects Australia? I don't know :), I don't live here long enough to be aware and fully feel the impacts of the US economy.
 
Hi all,

Some interesting replies, and the concensus appears to be that higher inflation will be quelled.

However I feel that the below quotes from Greenspans speech should be noted.
"ALAN GREENSPAN: In retrospect, last year
appears to have marked a transition from an extended
period of sub-par economic performance to one of
more vigorous expansion."

"ALAN GREENSPAN: Looking forward, the
prospects are good for sustained expansion of the US
economy. "
"In all likelihood employment will begin to grow
more quickly before long, as output continues to
expand."

"ALAN GREENSPAN: The Federal Reserve can be
patient in removing its current policy
accommodation."

Being the contrarian, I believe that creating inflation in the US is how they will go about solving their budgetry deficit problem. Anyone want to contemplate the alternative??

Pitt St. Care to share what you think "garden variety" inflation is??

I can see inflation kicking up to 6-10% fairly easily, but do they then kill it (and the economy) by raising rates too quickly, or raise them slowly over a period of a few years while trying not to create a recession?

It's all food for thought.

bye
 
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