Expectant of greater things,
We try climbing –
An effort that costs us much,
Leaving us short of breath
To find only
The ground below is much prettier.
For the last couple of years I’ve been writing that I thought we might experience a biflation for a sustained period of time. Just to define the term again, biflation is an economic environment in which inflation of commodity-based assets occurs simultaneously with deflation in debt-based assets. Some of the recent economic data and market activity seem to support this.
Central Bankers Cooking Up Biflation …
Since the end of last year, coincidentally with the announcement of the ECB’s LTRO program, risk markets have gone more or less straight up. You can see on the chart below that the S&P 500 didn’t react much when the initial announcement came out on December 8, 2011, but took off just before Christmas when the actual allotment announcement came out and again at the end of February 2012 when the second allotment announcement occurred.
The charts for gold and the CRB commodities index look quite similar. It seems the idea that global central banks would do whatever it takes to rescue insolvent European countries and their banks (and their global counterparties) really took hold and gave traders the confidence to bid up risk assets. You can also see the recent dip as doubts emerged about whether bondholders would actually sign onto the Greek debt restructuring agreement and about the potential for slowing economic growth.
… But Growth Is Slowing
One of the problems with rising risk asset prices is that at a certain point they begin to harm economic growth. If you’re like us, you’ve noticed quite a jump in prices at the grocery store and the gas station. While there have been many positive economic data points lately, including signs that the U.S. economy (and even its unemployment rate) are improving a little, there are other indicators (like U.S. housing) that simply refuse to improve.
Last week the U.S. ISM manufacturing report came out, echoing some of these biflationary tendencies. The PMI came in at 52.4%, down from 54.1% in January, but still registered a 31st consecutive month of manufacturing growth. (Anything above 50% indicates expansion.) These numbers reflect continued, but slowing economic growth.
The employment index dropped from 54.3 in January to 53.2 in February – another possible sign of growth slowing. On the other hand, there was some evidence of pricing pressure (inflation) in the Prices Paid Index. It jumped 6% from 55.5 to 61.5, registering the highest level since June of 2011.
Obviously, we can’t draw sweeping conclusions from one report. But when you couple this with indications that gas prices are starting to affect retail sales, that European economies are contracting, and that even China is lowering its growth expectations, this whiff of biflation warrants some attention. (In terms of the China issue, I would still rather use the Shanghai Composite Index as a key indicator rather than rumours or government stats/targets.)
Biflation or Stagflation?
Some have used the term stagflation of 70s fame (or infamy) to describe this combination of rising asset prices and slowing economic growth. I’m no economist, but it seems like this particular edition of that dynamic is a little different. The main distinctions would seem to be in the areas of debt and volatility.
While a backdrop of stagflation implies a kind of one-way trend where asset prices rise and GDP stalls or dips, the biflation scenario seems to result more from the bursting of a debt bubble wherein debt-based assets exert deflationary pressure while central bank efforts to avert a financial crisis create asset inflation. These two forces then have a kind of teeter totter effect on economies and investors. How often have we seen bipolar market activity over the past decade where markets zoom ahead when it looks like debtors will be bailed out, only to see them come back to earth when debt jitters and inflation worries resurface?
Joe Weisenthal of Business Insider posted some interesting charts suggesting that stagflation tendencies are on the rise, but we’re not there yet. In the end, I suppose it really doesn’t matter what you call it. It seems this type of bipolar investment backdrop is bound to persist until a) we work off the debt overhang and recover or b) we have a crash that resolves it rather unceremoniously, and we recover. If you’re looking for recovery sign posts, Barry Ritholtz suggests 3 Charts Worth Watching.
Do you see any evidence of biflation in your area? How would you describe the difference (if any) between biflation and stagflation?