Tuesday, August 31, 2010

Outlook: The Economy and Inflation

If I haven’t mentioned this before, let me do so now: keep an eye on “business news”. So many people are focused on the political issues that they don’t take time to look at the business pages. People also tend to consider business news as very specialized, I think. I mean that the stories involve finance and accounting concepts that are not sufficiently understood by the average, intelligent person. I would agree if the articles on the business pages in the normal daily newspaper or news web site were about actual businesses and markets, etc. Most articles, unfortunately, are actually about the government and its activities. What would pass as actual news in the business world is ignored there just as real news is ignored in the other sections. Further, the “reporters” in the business section are not people with an education in business, finance, or economics. Nor do they have business backgrounds or even a history of intelligent investing. They are people with journalism degrees who could not make it to the front pages. Years ago someone did a survey of the people writing for Money Magazine. They found that few of the writers had any investment background. The writers for Money Magazine were young, inexperienced, and had bought into the Money Magazine “philosophy” (and advertising strategy) without question.

So it would seem that I have just given you good reasons to ignore the business pages. Well, even so, it is the reports on the government that you need to look out for. A few of those reports are considered significant enough to reach the front page. Many of the others are important to know about. You need to have a broader view of the economy we live in and its prospects to better understand what could happen in the future. You need that for yourself, to better plan for yourself and your family.

For example, some people are carrying on about high inflation and you might think that inflation is raging and creating havoc. Look around you. Do you see prices in general going up? Significantly? There is some, of course, but nothing big has happened as of yet and may not for a while. People who are carrying on about inflation happening now are ignoring the actual situation. (I am not suggesting that there is no threat of inflation or hyperinflation. There is. But it is a threat, a possibility and can be avoided.) Many people are ignoring the issues of Social Security and Medicare and their impact on the budget, today. You don’t keep track of this stuff without looking at the business section (and reading this blog, of course!).

Okay, so lets talk about outlook, or what I have called the Inflation Watch in the past. This time I am broadening my focus.

In spite of all the pushing, money pumping, stimulating, and general noise making, the government, including BO and Bernanke, has been unable to get the economy functioning, producing consistently, and growing. They don’t know why. Their mental framework, the “understanding of the world” they utilize to make decisions, has not brought them to the shining success they expected. But don’t despair; they know why it didn’t work. We didn’t cooperate, we being the banks, the business, the capitalists, the consumers, all of the non-government types. It is our fault. They will just have to try harder. Don’t worry. They, BO and his gang and Bernanke and his colleagues, will not question their ideas.

In the meantime, the economy is floating along, not improving, deteriorating marginally in areas that are hidden. More houses are being foreclosed upon (funny how there are few if any news reports about foreclosures these days, which was big stuff a year or two ago). BO is considering “restructuring” Fanny Mae and Freddy Mac. You know that won’t be good.

There is more unemployment and few new jobs, relative to the available workforce. (Notice that in my area, just outside of Washington, DC, unemployment is low. Isn’t that strange. Notice also the various comparisons between federal government employee incomes and the private sector.) Industrial production rose for a while, but has now slowed, if not stopped growing. Imports are again exceeding exports significantly, and the gap is growing. The balance of payments (all money transfers as opposed to just trade) shows that foreigners are still keeping dollars (idiots).

Not to be left out, foreign governments are doing just as much to screw things up as the U.S. government. Many who are looking at the Chinese to be shining stars are ignoring the fact that their Communist government believes in doing the same thing that the U.S. government does. We are the great capitalist nation and the Chinese are emulating us.

Someone could reasonably say to me that it isn’t really today that we need to be worrying about. It is the future, maybe the intermediate future. I agree. There are certainly significant seeds of terrifying doom planted in today’s economy, i.e., the debt, the made-up money at the Fed, the lack of any savings available for investment, the flood of new regulations, etc. The list is very long. Even worse is the lack of understanding of the true nature of the situation where the decisions are being made or where the decisions are being evaluated, i.e., the press.

Nevertheless, the American economy is not just the government or the Fed. There are millions of other actors who are seeking their best interest and working to achieve their own goals. These people have learned over the last century how to work around and within the government actions to minimize the consequences of those regulations and laws. Their ability to do so is not unlimited. But they have shown amazing creativity and resilience. We aren’t necessarily doomed.

Just as the government and mainstream economists don’t question their premises, those who have cried doom often in the last decades don’t seem to question why that doom hasn’t occurred. At root, they seem to give the government a kind of power in the economy that means that the non-government population is completely helpless and their actions have no consequences. Destruction is inevitable. Consequently, these doomsayers tend to pounce upon any small indication that things are coming apart as proof to the government’s power.

We must keep perspective.

The economy today is wallowing. The people making decisions are idiots. In many respects the average American cannot be relied upon to make good decisions. Even so, there is a lot of good stuff going on in our economy and society (including us). We can make it through with only a little damage. It would help if people listened to us. It would help if the American voters put in a non-Dem house of the legislature. Unfortunately, we can’t count on those events.

So what is the “Outlook”? At best it is very uncertain. Under current conditions and leaders, the best we can look forward to is more of what we have had over the last couple of years: no growth and floundering. With some positive results in November, maybe things will move toward the early part of this decade (not really good but better than now). But the potential is there for disaster. It isn’t unavoidable, just a potential.

Sunday, August 22, 2010

Inflation and the International Wheat Market

One site that I monitor that discusses inflation is loudly trumpeting the recent rise in wheat prices as proof of their longstanding belief that we will be seeing lots of inflation, and future hyperinflation. They have forgotten or did not know that inflation is a domestic issue, revolving around a nation’s currency, that price inflation is a rising of the general price level, and that many different things can cause a specific product’s price to change, even without regard to any government activities. They also do not seem to understand the importance of looking at the context of the facts of reality, in this case the international wheat market.

Before looking at the wheat market, I want to emphasize that there is no free market in the world. All markets, including international markets, are affected by individual nation’s attempts to manipulate their own domestic currencies and product markets. Nearly all nations today are manipulating domestic markets directly or indirectly with little restraint. International markets are the total sum of the actions of each nation, plus the actions of individuals and associations of individuals (companies) both to meet normal business objectives and to avoid government restrictions. Whenever international markets are discussed today, these basics must be remembered. If someone talks as if markets were free of interference, we know that they are missing, ignoring, or evading current conditions. It is true that international markets do act independently of any one nation and that the controllers of a nation’s economy are often unhappy with what happens in different world markets. But the markets themselves are fundamentally affected by the actions of different governments, which often overcome real, purely economic or business factors.

Occasionally, and maybe surprisingly within today's context, a market will move as a result of events, real events, not government activity. That is what has happened in the world wheat market. Interestingly, the Russian economy after communism (notice I didn’t call it “capitalistic”) has turned its production of wheat into an export crop. Before, under the communists, Russia had to import wheat, in spite of its very fertile agricultural regions. Russia, as a mixed economy has managed to become a major exporter of wheat. Even so, Russia is not an advanced economy, not even where agriculture is concerned, so that it is more vulnerable to “mother nature”. Russia is suffering from a major draught (see news stories about fires around Moscow, too). Its wheat production has fallen dramatically (the Russian government has now banned wheat exports), and the world price for wheat has risen as supply has fallen, as you would expect.

A rise in a commodity’s price due to a shortage is not inflation. Certainly, if there is inflation, the situation would be worse, which is true today in nearly every country, but they are still two different things. Someone who doesn’t notice the difference does not understand the issues or the economy.

The price of oil is similar to that of wheat, with some additional provisos. The effects upon the international oil market of the actions of individual governments are more obvious, to anyone who looks, that is. The most important result of government action on the oil market is that of reducing the supply of oil, enforced shortage. Governments in many nations have restricted the search for and the recovery of oil. Further, many oil rich nations do not allow private companies to operate in their country, so their search for oil and its production is generally less competent and less successful.

If you have read my earlier posts you will have seen that I have been expecting oil prices to rise to close or above the prices from earlier this decade. The basis of my expectations were that the reasons why the prices was above $100 a barrel would exist again, i.e., increasing demand from the two largest populated countries in the world, India and China. Chinese demand for oil has resumed. India doesn’t seem to be as strong as it was, however. What we have seen is a price that has gone up, but still is significantly lower than it was earlier this decade. I think that the lower price is due to lower demand in the U.S., and probably Europe as well, due to the fact that neither area has recovered from the 2008 recession. Neither area is poised to actually recover, so for the immediate future, we can expect world oil prices to remain lower than the earlier highs. This may be true even though U.S. production of oil is bound to be further constrained by the backlash from the Gulf of Mexico oil spill.

To further my point in this post, oil price increases are not necessarily the result of inflation, either. International oil prices are going to be generally impacted more by direct manipulation by each countries domestic controls. There are so many examples besides the obvious restrictions on drilling and refining, which predominate in the U.S. Most of Europe has taxes on gasoline that make it very expensive, thus cutting demand. Some countries subsidize gasoline sales to consumers, increasing demand. Many of the oil rich countries have nationalized oil ownership and production. It would be interesting to research Indian and Chinese government policies regarding the discovery of oil reserves, production of petroleum products, and the importation and distribution of oil and gasoline. Regardless of those policies, both countries currently require significant importation of oil to support their growing economies, and their increasing requirements will tend to push international prices up. Which is not inflation. An investor, in a fairly rational context, would look upon the emergence of large economies that were actually developing as opportunities for enormous profit.

To that let me add a note regarding commodities in general. I want to talk about the basic stuff of production, i.e., metals, not foodstuffs. Consider a world in which all economies, all countries, were becoming capitalists. The initial supply of the basic materials of production would be stressed to meet the demand of newly productive economies. New mines and processing facilities would be competing for investment funds. Initially, prices for these materials would increase and products worldwide would become more expensive. This would continue for a while because the new mines would be producing material that was harder to extract and more expensive to mine or process. Over time, new mining and processing technology would be discovered which would tend to reduce the cost. Some of the upward pressure on commodity prices is happening now with the emergence of more productive economies. There are opportunities both in the short-run and longer term for investment, profit, and creativity.