If we take a step back and look at the bigger picture, what we see is a bleak deflationary scenario. There is virtually not a single expansionary macroeconomic indicator, and almost all the ratios are below zero. GDP, CPI and employment are three highly significant indicators of what is currently happening across almost the entire world. Below is a chart showing changes in US payrolls over a three-month period, expressed as an annualised rate:
If we bear in mind that inflation is usually lower than the figure used for pay rises, it seems clear that 2009 has plunged headlong into deflation. Why are the official CPI figures less deflationary? Well, because the items that carry the greatest weight – and which depend on the state – are being artificially inflated at breakneck speed to prevent a free fall in prices. Only first-round inflation, triggered by a rise in oil prices – which hit us hard last summer – can mask the fall in prices that is already looming on the horizon. And this deflation is here to stay as long as the massive cash injections fail to fill the bottomless pits of the debt that has been created. Only when that happens will we see inflation rise, which may well quickly turn into hyperinflation. You can read Ethan Block’s simple but useful explanation of inflation:
http://vimeo.com/moogaloop.swf?clip_id=2782169&server=vimeo.com&show_title=1&show_byline=1&show_portrait=0&color=f5cc38&fullscreen=1
The Inflation Monster – Episode #4 from The Way to Build Wealth on Vimeo.
It is vital to realise the importance of investing wisely, even in times such as those we are now beginning to experience, when deflation increases the purchasing power of our assets. But be careful: this applies only to those assets that are protected against a loss of value. And this concept is of the utmost importance, as our clients are well aware. We are facing a period in which making our investments and structuring our wealth correctly, with sound advice, will have a multiplier effect in the coming years. Unfortunately, however, the opposite is also true, and in fact very few people are managing to protect their wealth from loss of value. Most take mental refuge in the hope that this nightmare will end, so that everything can go back to the way it was before. But what many refuse to admit is that the way things were before was a dream.
The strategies for managing wealth in deflation and inflation are, logically, very different, and it is disastrous not to be able to distinguish the correct decision at any given time. Government cash injections (machines for printing money, but not for earning it) have so many zeros after them that it seems as though deflation’s days are numbered. But hyperinflation is probably not as close as some people think. And to flood the desert, it will take a massive injection of funds, and for longer than some realise. As things stand, the world is in deflation, with all that this entails, and with an exceptional opportunity at our fingertips for our wealth to grow spectacularly.