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June 10, 2011

Emerging Nations Don't Understand Interest Rate Sensitivity

In order to combat inflation, nations all over the world have been raising interest rates with impunity.  One of the great lessons America learned in the past thirty years of monetary policy is how sensitive an economy is to interest rate changes and how long it takes to see the full effects of interest rate changes (EVEN SMALL INTEREST RATE CHANGES) in the system.  To quote Alan Greenspan, it takes up to 12 quarters to see the full effects of policy change in the marketplace.

For example, when Ben Bernanke took over from Greenspan he immediately began raising rates in small 25bps increments.  He thought he was being prudent, but it wasn't until ARM rates reset several months after the first rate increase took effect that real estate values began dropping and people began defaulting.  Too late he learned he had moved too far too fast.

It takes a lot of interest rate increases in small GDP countries like Australia, India and Brazil to counteract the affects of $100 billion of FED liquidity a month.  And when the FED liquidity stops cold turkey on June 30th, the combined affect of all the tightening that has not yet fully worked its way though the emerging market system will be compounded by the withdrawal of additional liquidity and stimulus from the mature world.  In fact, the mature world will go from throwing money at the system to austerity measures in the blink of an eye come July 1.

Markets are counting heavily on demand from Japan when they begin rebuilding.  They are also counting heavily on China actually building the 36 million "worker" housing units it promised in its most recent 5 year plan.  But people in the know in Japan and China are seeing a downshift in rhetoric from "commitments" to "goals".  Anyone investing on the basis of either is getting way ahead of themselves.  Japan is still trying to figure out how to pay for reconstruction and China is trying to figure out how to get enough electricity and potable water to grow.  Way too much is being expected of nations that are frankly "not ready for prime time".

Governments see rising commodity prices and people rioting in the streets and they immediately start raising interest rates.  We have yet to see whether these same economies have overstepped and tightened too much. 

My bet is that they have and also that they don't even know it.



Stop Stockpiling

For those of you who took my advice of 2 years ago to begin stocking up on cheap goods, it's time to


You will get another chance, and soon!

Two years ago I got a 30% discount on a brand new Camry Hybrid and a zero-percent interest rate loan to boot!  These discounts are a thing of the past, thanks to shortages of electronic components out of Japan.  A review of the monthly data out of the auto companies for April and May show that cars are now selling for full-price again.

Dry goods, clothing, and most grocery items are no longer on sale and coupons are meager as well.  P&G, Kraft, Kimberly Clark, etc are raising prices to "see what happens" to demand.

Dollar menus at fast food chains have been thrown out of the proverbial drive-thru window and Starbucks just announced a 17% increase in prices across the board.  Restaurants are back to charging large for dinner out.

DON'T PARTICIPATE!  SCALE BACK!  STOP STOCKPILING!  Let the market correct.  You will soon be able to buy everything cheaper!

Bernanke can't print any more money for at least 6 months and the treasury is at a Keynesian Endpoint (the point at which additional government spending is so unpopular and getting so little results that it isn't worth doing).  Bernanke has sent TONS!!!! of liquidity into the system and it isn't getting out of the banks and into the hands of Main Street.  The FED will NOT, I repeat NOT do QE3 unless they have to to monetize the debt.  But first the economy will have to tank and prices for everything will have to go down.  He will be run out of town on a rail if he does QE3 for anything short of a double-dip recession.

In the meantime prices will go down.  By a little or a lot, there is no reason to buy anything extra right now.