Analysis of Inflation/deflation and covid-situation
Inflation: Persistent growth of the price level of a basket of selected goods.
Deflation: Fall in overall prices in an economy. Increase in purchasing power of the currency.
From deflation to hyperinflation, the historical route:
1. Central authority inflates paper assets, i.e. bonds, stocks and derivatives. Effect is capital inflow from real economy into paper assets. This leads to
a deflation in real assets. This deflation is a result of a fall in demand in the real economy (money rather being displaced to paper assets).
2. Commodity prices lower than production costs. An effect of less money being spent in real economy. Commodity prices fall to attract/please
customers demand-level. Counteracted with more monetary easing. _Security purchasing_.
3. Commodity producers either go out of business or cut production.
4. Point three leads to commodity shortages (creating excess demand), which in turn leads to spike in price.
5. This leads to a commodity-led inflation of prices. Capital flow from paper assets to real assets. Capital which has been bound up in the stock
market will now flow into real assets. Exacerbating inflation in congruence with the degree of monetary easing done during deflationary period.
6. Loss of confidence in currency. This leads to a flux to hard assets!!!
7. Hyperinflation ensues.
Theoretical basis for inflation/deflation (quantitative monetary theory):
-The quantity theory of money states MV = PY (money times velocity = price times output).
-This is the theoretical basis of the proportional increase/decrease in monetary stock/velocity. If perfectly inverse proportional, price times output stays constant. By this identity (formula) we can of course also see how inflation happens: If money increases while velocity and output stays constant, price will increase (inflation).
Where are we at?
-Degree of deflation can be represented by velocity of money. This metric has been falling sharply recently, and has been falling since -08 atleast. Central authority counterbalances this with inflationary measures like monetary easing. We can see by M2 Money stock and M2 Money velocity that both of these charts has gone full vertical just recently (january -19).
-We would expect commodity prices to fall as well as security prices to raise. A study by Peter Oppenheimer (october -19), chief equity strategist at Goldman Sachs, shows that commodity are prices down 50 % since -08. While asset prices are up 300 % during the same period.
Covid-19 lockdowns will effectively arrest the situation and temporarily kick the can down the road. How?
-Less people frequent stores and places of physical trade: This leads to lower velocity of money.
-By creating a supply shock/shutting down the economy: A supply shock happens when there is a lower output (Y decreases/GDP decreases). This leads to higher prices (see equation above).
--> Effectively M (UP) x V (DOWN) = P (UP) x Y (DOWN).
--> Lifting shutdowns will have an adverse effect on the deflation/inflation problem. _Dynamic inflation goal_… need I say the rest.
Deflation: Fall in overall prices in an economy. Increase in purchasing power of the currency.
From deflation to hyperinflation, the historical route:
1. Central authority inflates paper assets, i.e. bonds, stocks and derivatives. Effect is capital inflow from real economy into paper assets. This leads to
a deflation in real assets. This deflation is a result of a fall in demand in the real economy (money rather being displaced to paper assets).
2. Commodity prices lower than production costs. An effect of less money being spent in real economy. Commodity prices fall to attract/please
customers demand-level. Counteracted with more monetary easing. _Security purchasing_.
3. Commodity producers either go out of business or cut production.
4. Point three leads to commodity shortages (creating excess demand), which in turn leads to spike in price.
5. This leads to a commodity-led inflation of prices. Capital flow from paper assets to real assets. Capital which has been bound up in the stock
market will now flow into real assets. Exacerbating inflation in congruence with the degree of monetary easing done during deflationary period.
6. Loss of confidence in currency. This leads to a flux to hard assets!!!
7. Hyperinflation ensues.
Theoretical basis for inflation/deflation (quantitative monetary theory):
-The quantity theory of money states MV = PY (money times velocity = price times output).
-This is the theoretical basis of the proportional increase/decrease in monetary stock/velocity. If perfectly inverse proportional, price times output stays constant. By this identity (formula) we can of course also see how inflation happens: If money increases while velocity and output stays constant, price will increase (inflation).
Where are we at?
-Degree of deflation can be represented by velocity of money. This metric has been falling sharply recently, and has been falling since -08 atleast. Central authority counterbalances this with inflationary measures like monetary easing. We can see by M2 Money stock and M2 Money velocity that both of these charts has gone full vertical just recently (january -19).
-We would expect commodity prices to fall as well as security prices to raise. A study by Peter Oppenheimer (october -19), chief equity strategist at Goldman Sachs, shows that commodity are prices down 50 % since -08. While asset prices are up 300 % during the same period.
Covid-19 lockdowns will effectively arrest the situation and temporarily kick the can down the road. How?
-Less people frequent stores and places of physical trade: This leads to lower velocity of money.
-By creating a supply shock/shutting down the economy: A supply shock happens when there is a lower output (Y decreases/GDP decreases). This leads to higher prices (see equation above).
--> Effectively M (UP) x V (DOWN) = P (UP) x Y (DOWN).
--> Lifting shutdowns will have an adverse effect on the deflation/inflation problem. _Dynamic inflation goal_… need I say the rest.