One word you rarely hear from politicians is ‘deflation’. Yet, we feel it is gaining ground around the world and rising house prices are masking it.
Zero interest rates are deflationary for the simple reason that savers are experiencing falling returns on their bank deposits and dividend yields. This translates to falling income. Interest rates around the world continue to slide. This is contrary to economic theory which states that interest rates must rise during inflationary cycles. For example, the European Central Bank has lowered its rate to .05 of 1%. Similarly, German 10 year government bonds have fallen, for the first time, to under 1%. After taxes and inflation all investors are losing money. This is 100% deflationary.
Japanese 10 year bonds yield .5%. They have been this low for 11 years now. Japan has had 24 years of negative interest rates, and the country has slid into deflation three times over the same period. Today, a new threat is taking place; Japan has a falling population and one of the world’s highest numbers of people aged over 65. This has resulted in a shortage of skilled workers. Oddly enough, wages are falling for the first time in 24 years. Japan is showing to anyone who is paying attention that prices and wages can fall. Too many in the West believe prices, especially those for all forms of real estate and wages can only go increase year after year.
We have been told for many months now that the American economy is on the rebound. Yet, interest rates continue to fall as 10 year government bonds are bouncing at all-time lows. With real unemployment at 12% (U.S. Debt Clock), the American economy is going nowhere. New housing starts are up, however, there remains thousands of new homes built between 2005-2008 that have yet to be sold.
It appears all of Europe is about to take a slide into deflation. There is very little governments and Central Bankers can do to stop it from happening. The only thing they can is to put more money into the consumer’s pocket. Instead, the Bankers only want to reward people who are deep in debt via low interest rates.
History tells us deflation is a real threat. In the recent issue of the Sacola Financial newsletter we wrote, “on the last Friday of August in both 1929 and 1987, the Dow Jones Industrial Average traded at the then all time high. Two months later, the stock markets around the world collapsed”. As a note of interest, the last Friday of August 1987 was the 29th, the same as this year.
On the 29th of August, both the S&P 500 index and the Toronto Stock Exchange traded at their all time highs. The Dow Jones Industrial average closed at .02of 1% from its all time high set July 16th. Are we about to repeat the fall months of 1929 and 1987? We do not know, but only a fool ignores history. To protect oneself, you should have no debts and some cash in the bank. Cash becomes King during any deflationary period.