WisdomTree Minds on the Markets
Minds on the Markets
Minds on the Markets
ARCHIVE: January 9, 2023
Time to Ruminate on the “D” Word: Deflation
One of the popular refrains these days: a 2023 recession would be one of the most anticipated contractions on record. In tandem with that argument is the widely held consensus that year-over-year inflation will come down hard, to something like 3-4%...but that it will be tough to hit central banks’ desired targets around 2%.
Maybe it will not be as tough as many expect, at least as 2023 is concerned. A ton of indicators are in outright deflation right now.
Last week, Bloomberg compiled the 2023 Market Outlooks of 500 investment strategists, highlighting a paragraph or two from each. The entire treatise came out to 89,777 words, spanning 224 pages. From that novel, we ran some word counts. “Recession” appeared 853 times, while “inflation” clocked in with 807 appearances. The word “deflation” appeared zero times. We find it peculiar that recession is the talk of the town, yet the entire Street refuses to mention the thing that comes with recessions: price declines.
Even if deflation is not your forecast, you would think someone would have written a sentence such as “We anticipate house price deflation,” bringing the word count to one. Nope.
The S&P/Case-Shiller 10-City Composite Home Price Index, which uses a rolling 3-month average, peaked in June. With Freddie Mac reporting a 6.48% national average 30-year fixed rate mortgage, it is not farfetched to ruminate on the prospect of all 12 months of 2023 witnessing home price declines. Not only that, but we imagine it’s the consensus.
Afterall, the National Association of Homebuilders (NAHB) survey shows buyer traffic at levels last seen during “early COVID-19,” when many people were afraid to go to the supermarket, let alone breezily stroll through open houses.
The degree of deflation in early-stage goods production categories is stark. The HWWI Industrial Raw Materials Index has fallen 35.5% since March. At the same time, the cost of loading goods onto a 40-foot container and getting it across an ocean has tumbled. The Harper Petersen Charter Rates Index has fallen 68% and is now well within the pricing you would have found had you sought out shipping services in the first decade of this century.
A couple big economies – India and China—have witnessed producer prices come down notably in the last half year. India’s Producer Price Index (PPI) has fallen 2.5%, while China’s has fallen 7.2% in that time. If European natural gas prices keep subsiding, it may not be long before a big dog like Germany also witnesses a PPI peak.
Not only that, but U.S. M2 money supply won’t stop falling. Over the last 13 weeks, it has contracted by $161.6 billion, contributing to some of the largest half-year rate of change contractions on record. At the same time, the Fed’s Senior Loan Officer Survey found that the number of banks who are tightening credit on their loan book exceeds the easers by 31.3%. The measure is already at levels seen in 2001, 2008 and the early COVID-19 days—none of which the Street associates with runaway inflation.
Even if any forthcoming 2023 deflation does prove, ahem, transitory, it is on the table. It isn’t our base case, but it would come as no surprise. Between home prices, raw goods prices, shipping rates, international PPIs and money supply, it’s red all over. We think the same goes for a handful of 2023’s Consumer Price Index (CPI) reports.
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