Inflation, Commodity Prices and the Dollar   (September 29, 2009)

Inflation is not a given, and neither are stable commodity prices.

Correspondent Angry Saver noted that deflation /price stability has occurred on a regular basis. Indeed, according to The Great Wave: Price Revolutions and the Rhythm of History , prices in 19th century Great Britain hardly varied. A loaf of bread fetched the same price in 1803 and 1893.

Here is Angry Saver's commentary:

Inflation is immoral. The notion that deflation will bring eCONomic ruin is a ruse to justify theft. Economies can function fine with deflation, although with all our ponzi debt it would be very painful now. It's kleptocracies and ponzi finance that don't fare so well under deflation.

"Friedman and Schwartz estimated that prices in general fell from 1869 to 1879 by 3.8 percent per annum. Unfortunately, most historians and economists are conditioned to believe that steadily and sharply falling prices must result in depression: hence their amazement at the obvious prosperity and economic growth during this era." -- Murray Rothbard

A few "random" points of reference. From 1871 through 1900, annualized CPI inflation was negative 1.56%. From 1871 until 1934, annualized CPI inflation was +0.09% (and this period included a substantial inflation centered around WW1). 1934 is significant as this is when the U.S. confiscated gold from its citizens. From 1934 through 1971, annualized CPI inflation was 3.04% (welcome to the nanny state).

1971 is significant as this is when Nixon officially abandoned the gold standard. I say "officially" as the tether had long since been broken its just that the market ignored this reality. From 1971 to 1983, annualized CPI inflation was 7.78% (welcome to inflation driven exponential debt growth)!

1983 is critically important although few realize its significance. What's so special about 1983? Well, that's the year we started phasing out actual house price increases from CPI and incorporating Owner's Equivalent Rent (OER). And OER was implemented under Volcker, an alleged inflation fighter (there are no good central bankers, although some are clearly worse than others).

What's important to keep in mind is that inflation volatility is a financial killer. Annualized CPI inflation from 1871 to the present has only been 2.08%, yet many have been devastated by its theft (WWI, WW2, 1970s). And to add insult to injury, our official policy of inflation (and the spectre of high inflation) drives people towards Wall St. (risk) and their venomous investments which all but guarantee losses in real terms for the majority.

It's hard for me to accept that an eCONomic policy based on theft and volatility will lead to the best outcome. Bernanke is sure though. Just like he was sure that a light regulatory touch would lead to the best outcome. Just like he was sure that there was no housing bubble to go bust. How much pain will we be forced to endure before Bernanke admits that more debt IS the problem?

Since inflation, consumer and commodity prices all share the same space in the public awareness, let's turn to correspondent B.C. for some charts of the CPI (consumer price index) and commodities.

B.C. explains:

The CCI is the old index, whereas the Reuters/Jeffries CRB is the new index reweighted with energy in '05:

The weighting scheme is related in detail below, showing the recalculation using arithmetic averaging, monthly rebalancing, and a four-day rollover:

Here is a chart of the new CRB index 2001-2009. Is it just coincidence that this peaked along with the global housing bubble in 2006? The second spike in 2008 reflects the rise of oil to $149/barrel.

Next: here is B.C.'s annotated chart of the CPI from 1974-2009. This is a content-rich chart so click on the thumbnail to see the full chart in a new browser window.

And here is B.C.'s annotated chart of the CRB and the "old" CCI commodity indices from 1974-2009. Note the effects of the overweighting of energy. Click on the thumbnail to see the full chart in a new browser window.

In analyzing these charts we must remember that the commodities are priced in U.S. dollars. That of course is what makes understanding commodity price fluctuations akin to a 3D chess game: if the dollar snubs the 97% bearish pundits who are calling for its demise and rises significantly, then each dollar buys more commodities, even if that commodity is rising when priced in gold or another currency.

But if the dollar tanks as widely expected, then even commodities which were stable in value when priced in gold or other currencies would cost much more in dollars.

Speaking of the dollar: correspondent David B. sent in this intriguing chart of the U.S. dollar ETF, UUP with these comments:

Check that volume out on the weekly ... If I was looking for something conspicuous to mark a possible capitulation low on the dollar (like last year's low) it might be ramping volume.

(Click on the thumbnail to see the full chart in a new browser window.)

Thank you, Angry Saver, B.C. and David B. for your commentaries and charts. All of which remind us that attempting to "price" commodities or understand consumer prices without accounting for the dollar is a doomed enterprise.

Put another way: the basis of stable consumer prices is a stable, sound currency. Speaking of which: here's an idea whose time has come: End the Fed by Ron Paul. This book is currently #6 on, so we can surmise that many other citizens are concluding it is indeed time to end the experiment of State manipulation of money supply, liquidity and interest rates, all of which have led to endless and endlessly destructive asset bubbles, inflation and financial fraud.

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