Deflation: It's Back

deflation hot air balloon

At some point in the last month, everyone came to the conclusion that Ben Bernanke had whipped deflation (“it”), and that the only question left was how to avoid inflation once the economy rebounded.

The talk was all about rising yields, soaring commodities, a weakening dollar, and how to drain liquidity when the time came. Would the Fed be able to stick the landing? Could we tolerate a little bit of inflation if it meant not cutting the recovery short?

What a difference a week makes. Here comes the D-word again.

With the rally sputtering, and the economy showing few meaningful signs of recovery, suddenly the market is back to its old fears.

Oil has moved sharply lower, and gold, which just a couple of weeks ago was knocking on $1000 now looks set to break below $900, to the eternal disappointment of its fans. Sure, gas prices have bounced back, but still, the CPI showed its biggest drop in 50 years last week.

Looking forward, there’s plenty of reason to think demand will continue to get sapped from the system, as consumers continue to delever (do you really think household debt has normalized yet?), OptionARMs kick in and unemployment continues to mount. The White House confirmed yesterday that it expected 10% unemployment “soon”, though it’s not like that’s really new.

In the meantime, all this should give Bernanke carte blanche to keep the printing press running. What was that about tightening later this year?

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