David Rosenberg – Post credit-bubble collapse has more downside

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The following is a partial transcript of Jim Puplava‘s great interview on Financial Sense with David Rosenberg, Chief Economist and Strategist at Gluskin Sheff & Associates. In it, Rosie gives a description of his overall deflationary outlook for the remainder of the year and why this current post credit-bubble collapse still has much further downside. Click here to listen to the audio interview.

Jim Puplava: Joining us next on the program is Dave Rosenberg. He’s Chief Economist and Strategist at Gluskin Sheff and Dave, you made a comment the other day about an article that was written by Bill Miller in The Financial Times discussing oil, commodities, and what we call the dollar debasement trade. At some point, it almost becomes counterproductive, meaning that as the dollar falls and if oil goes up high enough, it’s going to impact economic growth. And there’s some price to pay for that cheap money, the bad effects of inflation. Do you subscribe to that view?

Dave Rosenberg: Well, I think there’s quite a bit of truth to it. You know, we had the situation with the Feds’ QE2 program that was ultimately aimed at bolstering risk assets like the equity market but at the same time, other correlated risk assets like commodities and particularly, things that we have to buy—necessities like food and fuels—have skyrocketed and as a result, we’ve had wages in real terms decline now for six months in a row. So it’s almost like Newton’s first law of motion, every reaction has an equal and opposite reaction and in some sense, these QE2 programs, these quantitative easing programs, while they may have ignited animal spirits in investors, have created other distortions as well that have perhaps done more harm than good for the real economy.

Jim Puplava: Yeah. According to Miller, there’s a lot of price or momentum and belief in the system—it’s kind of like a trend that’s once in place keeps going until it bends eventually. How much do you think of, let’s say, the rise that we’ve seen in commodity prices is based on true fundamental demand factors and part based on, let’s say, just cheap money that’s going and looking for a place to park.

Dave Rosenberg: Well, we knew that commodity prices have been in a well-defined secular up trend for the past ten years. So then the question really is, in those periods where you get these sharp deviations from the trend line. The trend line in commodities is up—if China has some Ponzi scheme that implodes, I imagine that will have a deleterious impact on demand and the secular bull market would be over. Because at least we know what the basic tenets are from the demand side.

But what happened—and I think a lot of this is starting late summer with quantitative easing—is that the liquidity or at least the perceived liquidity—if it’s going to influence one asset class like small cap stocks, it’s going to have an impact on correlated assets being commodities. And if you take a look, for example, how you’re going to assess this is just go to the weekly commitment of traders’ reports and just go to the Nymex futures and options to see what the net speculative long position is in a variety of commodities—in this particular instance, let’s look at oil—and we had a situation a couple weeks ago, for example, where the net speculative for a non-commercial interest in oil contracts was triple what it was in the summer of 2008 when oil was $145 a barrel.

So there’s no question that whether it’s a ten, twenty or thirty dollar premium that we had in the price of oil, in a sense which that may have been reflecting what was happening in Libya, the reality is that what we had for most of this year that move, I would say, from $90 up towards $115, I treat not as a source of demand in real terms globally, which might be a beneficial increase in the price. But instead, what it really has done is acted as an exogenous tax shock on the American consumer, which is why these consumer confidence indices really, although they’re up off the bottom, the depression bottom, are still at levels that would be consistent with recessions in previous cycles.

James Puplava: Now Dave, your long-term views on all of this have been more in the deflationary camp. Do you still hold those views, given the rise that we’ve seen in, let’s say, PPI, CPI and the basic goods that we have to buy on a daily basis? And if you hold that view still, what are the main reasons behind it?

Dave Rosenberg: Well firstly, let’s go back to the summer of 2008. Once again, we have a massive commodity spasm. And everybody has inflation on the brain. If you actually go to the consumer confidence surveys, people thought we were going to have 6% inflation. Of course, we did get headline inflation at the peak when oil was peaking and other commodities, inflation did get to 5-1/2% at the highs in the summer of 2008. And a year later, we were negative 1% on the inflation rate in a twelve-month span. But something got in the way of that commodity boom and maybe it was credit, maybe it was housing, a combination of the two.

As far as I could see, home prices are deflating, commercial real estate is starting to roll over again. We have a situation where there are now more than six Americans in the total pool available labor vying for every job opening out there, and that’s putting downward pressure on nominal wage growth. So the answer is that statistically speaking, if we just take a look at a point of time, your answer is quite right—that we have these visible things we can’t really substitute away from in the family budget, which is food and fuels. And commodities certainly are volatile and they move like a sine wave over time. And that’s where the inflation is.

But you see what’s happening at the same time because you can see it in the data. You can see what is happening to pricing in other parts of the economy, especially in the service sector, which is still sensitive to what’s happened in labor market. And that’s what people tend to forget is that, yes, we have goods in place and spending from the commodities. But two-thirds of what we as Americans spend money on out of the budget—well, two-thirds of that is services, not goods.

You know, forty years ago it was goods, but we’ve become more of a service-sector economy. And you’ve seen a lot of service sector prices actually still disinflating because they’ve been deregulated and they’re subject to tremendous competition. And at the same time, there’s only so much money right now in the family budget to spend. So you might get more inflation, say, in food and fuels and that means that people have to cut back on other parts of the budget, especially the discretionary items. And I think it’s those areas that will be deflating over the course of the next year.

So I guess that’s what it comes down to—that is this run-up on commodities really a sustained increase in the overall inflation rate going forward like it was in the 1970s or is it really a relative price shift? And what it’s going to do in the stagnant wage environment is force people to cut back on the other parts of the budget that’s going to force reduced pricing power in those other areas.

Click here for the full transcript.

Source: Jim Puplava, Financial Sense, May 17, 2011.

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