Stephan Roach is chairman of Morgan Stanley Asia, and pens this missive for the FT, in which he contextualizes why the Fed’s options are limited:
"Fears of 1970s-style stagflation
are back in the air. Global bond markets are growing ever more nervous
over this possibility, and US and European central bankers are talking
increasingly tough about the perils of mounting inflation.Yet
today’s stagflation risks are very different from those that wreaked
such havoc 35 years ago. Unlike in that earlier period, wages in the
developed economies have been delinked from prices. That all but
eliminates the automatic indexation features of the once dreaded
wage-price spiral – perhaps the most insidious feature of the “great
inflation” of the 1970s. Moreover, as the stunning surge of the US
unemployment rate in May suggests, slowing economic growth in the
industrial economies is likely to open up further slack in labour
markets, thereby putting downward cyclical pressure on wages over the
next couple of years.But there is a new threat to global
inflation that was not present in the 1970s. It is arising from the
developing world, especially in Asia, where price pressures are
lurching out of control. For developing Asia as a whole, consumer price
index inflation hit 7.5 per cent in April 2008, close to a 9½-year high
and more than double the 3.6 per cent pace of a year ago. Sure, a good
portion of the recent acceleration in pricing is a result of food and
energy – critically important components of household budgets in poorer
countries and yet items that many analysts mistakenly remove to get a
cleaner read on underlying inflation. But even the residual, or “core”,
inflation rate in developing Asia surged to 3.8 per cent in April, more
than double the 1.8 per cent pace of a year ago…"
If memory serves, Roach worked for the Fed (under Arthur Burns) in the 1970s, and is very familiar with how they operate in the face of rising prices: First Denial, then Panic, then Acceptance. I think we’ve seen the first two in spades so far . . .
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Source:
The new stagflation: an Asian export
Stephen Roach
FT, June 12 2008 18:54 | Last updated: June 12 2008 18:54
http://www.ft.com/cms/s/0/a7957366-387c-11dd-8aed-0000779fd2ac.html
Steve Roach says that U.S. wages have been delinked from prices, thus neutralizing a 1970s-style wage-price spiral. Meanwhile, he points out that developing country inflation is running away, which will surely lift U.S. import prices.
What happens when falling wages (in real terms) collide with rising goods prices? Sounds like a recipe for stagflationary depression, doesn’t it?
The inflation outcome will depend partly on official policy. But when falling incomes coincide with rising prices, shrinking GDP is a certainty.
Three strikes for recession. The verdict’s in.
Generals in any field always fight the last war.
About two years ago I saw Roach speak at the Council on Foreign Relations. I think he is always a great speaker, but he worked for the Fed when some of the “inflation less inflation” adjustments were made. I remember someone asked him about keeping fuel out of the inflation figures and he tried for about 20 seconds to defend the practice and then basically looked at the audience and said, something to the effect of, “and, of course, there was a great deal of political pressure at the time to print a lower inflation figure.”
[Fed response to rising prices]: First Denial, then Panic, then Acceptance. I think we’ve seen the first two in spades so far . . .
No, First Creation, then Denial, then Panic, then Acceptance. I think we’ve seen the first three in spades so far . . .
The logic in this post gets it really completely backwards. To put the ball on inflation into the corner of the BRIC countries is testimony to complete misinterpretation of the facts. Global inflation results directly from the impact of a sinking US dollar on rising commodity prices. It is therefore the Fed that has to accept responsibility and raise rates if a revisit of the 1970s is to be avoided.
A slowing economy and 5 to 6 percent UER might not provide enough slack in resource utilization and to count out indexation and a wage-price spiral looks more like burying the head in the sand and hope for the best.
Moreover vice chair Kohn’s under the radar remarks about permanently higher prices are indicative of a Fed that is out of ideas.
It is time for new ideas and new people at the helm of the Federal Reserve.
>> the automatic indexation features of the once dreaded wage-price spiral – perhaps the most insidious feature of the “great inflation” of the 1970s
“Most insidious” to whom??
When the government taxes thru inflation, then only rising salaries can help laborers keep pace.
In contrast, when assets, commodity prices, and living expenses rise without a concomitant rise in salaries, then the top 1% benefit extraordinarily while the rest see a loss in living standards.
The situation now is actually more difficult to treat than the widespread inflation of the 70’s. We have deflation and inflation occurring simultaneously. One shot of chemo (higher rates) might kill the patient. As deflation is considered the worst of all enemies, I suspect inflation will be the route preferred by our central bank. Get used to it. Those industries with pricing power like commodities and health care run wild while our houses deflate and our paychecks stagnate.
We didn’t get here overnight. My favorite blog outside of BP is “The Mess that Greenspan Made”. The title speaks for itself.
Wasn’t Steve put into exile a while ago for being to bearish? God bless the man
Per this comment:
“I remember someone asked him about keeping fuel out of the inflation figures and he tried for about 20 seconds to defend the practice and then basically looked at the audience and said, something to the effect of, “and, of course, there was a great deal of political pressure at the time to print a lower inflation figure.””
Technical question for Barry or whoever? When comparing our current inflation to those of yesteryear, why don’t we change yesteryear’s inflation using today’s methodology. In other words, people saying “today is fine, it was 10% in the late 1970s.” Well, if we’re comparing to the late 1970s, shouldn’t we only compare by stating the late 1970s’ inflation figure using today’s methodology?
Stephanie Pomboy (Macromavens) was referring to a stagflation scenario several years ago, ISTR in the process of arguing we were in a secular bear market since around 1998, but in any case I saw no reason to disagree with her then or now.
But also agree that generals usually fight the last war and am inclined to doubt growing supply shocks arise from anything straightforward: If I could figure out how much was due to supply-demand factors vs. production, transport, speculation, risk-premia and real carry cost or even what impact the growth financing model the BRICoids are pursuing (China in particular) had on money supply (and velocity) I might be able to make a rational long-term decision but as it stands I mostly just shorten my swing-length and trigger when I trade and hunker down for the rest.
Yes, we are indeed screwed: we are and will continue to suffer from both a recession and inflation at the same time.
Why? Because the deflationary, or at least disinflatonary, effects of the recession in the USA are being overwhelmed by the inflationary effects of increasing demand caused by the global boom in recent years. This is especially true in Asia where they do not have a housing bust, and because they have partially decoupled from us.
Also, our inflation is being exacerbated by a lower USD that puts us at a disadvantage in bidding for global commodities. And, of course, our USD was weakened because our economy has slowed much faster than TROW. They have not had to lower interest rates, thus keeping their currencies stronger. It is a vicious circle that all goes back to our housing bust and the resulting weak economy.
Whose idea was globalization anyway? And why did they think it was such a great idea? Didn’t they anticipate the inflationary impact resulting from much greater demand for limited world resources?
I’ve always been under the impression that globalization was simply another word for empire. Same pony, different day.
I’m with you, rj. The reason they don’t recompute the old data with the “modern”(In your face brazen lies and distortions) is that the 70s would look tame in comparison.
So if you walk off a cliff, fall down and hurt yourself, gravity is the culprit?
The path we are on was laid out by President Johnson with the guns and butter theme along with making Social Security insecure by masking government spending with the SS pension money. Nixon followed with the doller devaluation in 71. I remember people saying it was no big deal. It would just mean you’d buy your camera, car or watch from a U.S. manufaturer rather than a a German or a Japanese one. I saw the writing on the wall. The U.S. needed to compete with other countries with inhuman working conditions. The solution by our brainy elitist ‘betters’ was to gradually (slip it to labor) export manufacturing to more “competitive” areas; from the Northeast to the South; then further south; then all the way to China. The rich got richer, the middle class got 70 cents on the dollar for their pension from bankrupt corporations (if they were lucky), but the amount of jobs available stayed about the same so the slow impoverishment went unnoticed. Morning, my arse!
People like me who can smell BS at a distance are living okay but most people aren’t doing okay. This is all part of a plan to globalize labor. Again, Nixon made the first big move. The talk became public in the 90s but anyone could see what was coming down the pike in the 70s.
Well, it’s here now and we need to live with it. The technology to change our energy infrastructure has been there for 50 years. Now it’s even more polished. The petro people don’t need the chicken that laid all thos golden eggs any more so they are killing the chicken. Guess who’s going to pay for our new infrastructure? Have you got a mirror?
This fool certainly got it right when he said that the stagflation we’re facing this time is different than that experienced in the 1970s. Back then, the scala mobile made sure that workers made up at least some of the lost purchasing power they were experiencing, so the frustration and bitterness against the elite was damped. This time, folks who work are being picked up by the scruff of their necks and being shaken for every penny, farthing and centime they’ve got in their pockets. With the new bankruptcy laws, they’ll also taste the lash of the modern debtors prison.
Yeah, stagflation is different this time. It’s brewing up all of the necessary ingredients for a societal revolution across the globe as rapacious, crony capitalism refuses to understand what’s happening below the high towers of the elites. It’s like watching Jack London’s “The Iron Heel” come to life before one’s very eyes.
wunsacon said:
Well, tough luck for us, but everyone who makes any kind of decisions about how our country is run is included in that 1% that wunsacon talks about.
So, only one thing could possibly help us: The 99% would have to overthrow the 1%. But that is guaranteed never to happen. For that, you would need a populace that has at least an elementary grounding in reality. What is far more likely is that the populace, believing what the 1% tells them, would choose an even more oppressive regime than the one they already have.
In a nutshell: The people of the United States would rather die of a long and painful starvation than diminish the wealth of the 1% that rules them.
2007 Denial(remember sub prime is contained),2008 Panic (remember bear), 2009 acceptance.imho.
Now we are calling for a revolution? Yes, that seems to work really well for all of the African and Caribbean states. A revolution every time you are dissatisfied with the ruling elite, which would be every 15 years or so. That kind of destruction never harms the economy.
As a country, we need to stop whining, take the pain and do the hard work to fix it. This is not just caused by the “elites.”
Though a lot is similar, Roach is definately fighting the last war. The most obvious example is oil. The oil embargo took known supply off the market. Now, all the known supply is on the market, so where is the light at the end of the tunnel?
Also, this time around the pressure is coming from a ton of different commodities. It will be interesting to see if consumption can drop enough and new supply can be increased enough to take the pressure off.
Chad,
with this: “A revolution every time you are dissatisfied with the ruling elite, which would be every 15 years or so.”
I’ll ask if you’ve brushed up on Thomas Jefferson recently(?)
Towit, and to paraphrase, he suggested that the Tree of Liberty be nourished with Blood of Tryrants
see: http://www.bordc.org/threats/index.php
We, the People, stay Silent at grave risk..
wunsacon.
Andrew Samwick put this real hourly and weekly wages chart together a month or two ago. Wages during the 1970s didn’t keep up but fell substantially.
http://picasaweb.google.com/lh/viewPhoto?uname=asamwick&aid=5195760215722236945&iid=5200404157632314674