Why DEFLATION Is Now Likely and SO SCARY!
HERE’S WHAT’S SCARY: MY NEIGHBOR WAITING TO BUY HIS MERCEDES!
You have no idea how scary that is!
My neighbor grew up poor in Boston, played college football at the highest levels, and is now a very successful enterprise software salesman.
He is also very cheap – so cheap in fact that he went without a car for six months because he heard car prices might come down.
Was it worth it? Probably not. Could he have afforded any car he wanted? Definitely. But – his need to get the absolute best possible deal overcame all other considerations.
And, for good or bad, that same mentality drives most American consumers.
SO – what is really, really scary is the prospect of most American consumers waiting to buy big-ticket items because they think prices will continue to fall – making those items much cheaper later on.
And DEFLATION, or the consistent falling of consumer prices, fosters that mentality – every time.
Consumers waiting to buy things en masse is so bad because almost 70% of America’s GDP is comprised of consumer spending.
So – a sharp drop off in consumer spending could spiral the U.S. into a major recession or even a depression like we saw in the 1930s.
Policymakers fear deflation more than inflation because of the potential spiral it creates – with employers cutting costs and laying off people, consumers spending even less because they have less money, consumers saving more (and spending less) because they are scared, and companies investing less as well.
SO WHY DO I THINK DEFLATION IS LIKELY NOW?
Because so many of the macro guys who correctly called the recent drops in inflation are now predicting deflation.
This excellent Twitter thread by Andreas Larsen is just one example. Larsen carefully explains that we are already seeing significant deflation in many parts of the economy – outside of housing. He points to energy costs, supply chains untangling, falling goods prices, and plummeting shipping costs, among other things.
Barry Habib and Jeff Snider both like to remind us that the Fed is missing the mark with labor markets too, as the Fed’s data is too old (“the Fed is looking in the rearview mirror”) and they are missing obvious negative trends now.
SO – even though Treasury Secretary Janet Yellen penned a WSJ Op-Ed today, explaining that the economy is back! 😊 Most of the smart money vehemently disagrees with her.
WHAT DOES THIS MEAN FOR MORTGAGES AND REAL ESTATE?
When the Fed sees obvious signs of deflation, it will panic and cut rates (probably to zero).
That of course will be great for the mortgage industry, as it will spark one more refi boom (assuming “liquidity” does not dry up to the point where even refi’s are hard to come by – but that is another blog topic).
And low rates also tend to be very good for real estate, as we have all seen and are seeing, as today’s lower rates are bringing buyers back to the market in large numbers.
BUT – if the economy gets too slow and unemployment climbs too much, a huge number of potential buyers could be forced from the market if they lose their ability to qualify for financing (or just want to hunker down and save money).
I might finally add that this is somewhat short-term – as I think Congress will start raining down stimulus again if the economy gets too slow, and then we could very likely see inflation return.
It’s all about timing. But, early 2023 will be all about deflation or at least sharply declining inflation – and lower rates.
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