Are we in a period of deflation in America?

By Lloyd Graff

PIMCO co-chief Mohamed El-Erian

Are we in a period of deflation in America? Will prices for goods and services, real estate and machinery trend downward for the foreseeable future? Will wages also move down? Will the value of cash be greater and illiquid assets like homes and machinery get harder and harder to sell?

This is a question of enormous importance to not only economists and statisticians, but to everyone who doesn’t live in a cave.

The bond market is alerting us to the possibility of deflation, with the 2-year U.S. Treasury paying a .5 percent return and the 10-year yielding 2.9 percent. And this is in a period of trillion dollar federal deficits with foreigners supposedly skittish about U.S. debt.

If people are scared about repayment of principal or debasement of the currency, they will not accept three percent for 10 years.

The “sky is falling” inflation vigilantes who play the bond market were near apoplexy a few months ago about the pandemic of government deficits. Now many of the Henny Pennys, like Mohamed El-Erian of Pimco, are warning of deflation ala Japan in the 1990s.

I don’t think anybody really knows if we are entering a prolonged period of deflation, but I think that developing a contingency plan for deflation is wise. And the first commandment would be “Thou shall not own real estate.”

The worst thing to own during deflation is land and buildings. Better to rent with short-term leases and options to renew in case prices start to go way up. Small business people have traditionally built wealth by owning their buildings and renting to themselves, but this is absolutely wrong during deflation. Tokyo real estate has been a terrible investment for the last 20 years.

Leasing machinery and cars would be the way to go if prices slide. If a new Haas VF2 machining center dropped $10,000 in price over three years, the used value would depreciate accordingly.

An additional kicker is the likely appreciation of the U.S. dollar against foreign currency, which we have seen happen with the yen. This would make imports cheaper.

Deflation would bring wage deterioration and givebacks. We are already seeing a lot of this. We may be asking the counter intuitive question, “Is my pay decrease in line with deflation?”

For the investor, big multi-national companies with well protected dividends would be the ticket. A company like Altria that pays 6 percent by selling to tobacco addicts might be a good bet, if you can stomach owning the stock.

If one figures in the recent drop in home prices, we are in a deflationary period now. It’s a depressing prospect, but if you adapt to it, perhaps you can make it work for you.

Question: Do you think we will be in inflation or deflation for the next three years? How will you adjust?

Bananas for sale at discount grocer Save-A-Lot in St. Louis (Wall Street Journal)

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3 thoughts on “Are we in a period of deflation in America?

  1. Dan Vespa

    I got out of the manufacutring industry all together. It is a sad reality but I had to think of my family.

  2. Bob Sorge

    I guess you alreadfy made up your mind with terms like “inflation vigilantes” but I’ll give you my answer anyway: It depends. Are we talking South Florida real estate or bushels of wheat? The free market will eventually sort out the mess that fiscal policy has created. The more they fiddle, the worse it’s going to be. The last recession that the Govt did not ‘fix’ was 1920, it was over in 18 months. The politicians were still arguing about what to do and it was over.


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