Monetary Deflation Jude Wanniski September 20, 2004

From: "Angell, Wayne (Exchange)" <wangell@* * * * .com>
To: "'Jude Wanniski'" <jwanniski@polyconomics.com>
Subject: RE: monetary deflation
Date: Tue, 3 Aug 1999 11:15:46 -0400

Jude,

I have miss[ed] not being in touch....  at the same time I want to benefit from dialog with clear thinkers who have a somewhat different perspective from my own.

Rapid disinflation is quite often accompanied by outright deflation for food and fiber commodities.  And, first stage deflation quite often gives impetus to equity shares appreciation for all but a few sectors that are directly tied to the fruits of commodity production.

What we have to guard against is the wrong-headed notion in 1999, as in 1929, that equity market booms are caused by easy money.  In the period from 1924 to 1929 Governor Strong led the open market committee of the reserve banks to tighten money while farmers and homeowners were caught in bankruptcy and rural banks were failing.  It is likely that Alan Greenspan continues to receive advice that he ought to puncture the so called equity bubble.

Jude, a year ago I advocated a cut in the funds rate from 5.5 to 5.0 percent to halt the ominous disinflation and deflationary signals coming from the price of gold and my median commodity price indicator.  Unfortunately, in hind sight, Alan Greenspan has chosen to emphasize a "near freeze-up" in financial markets rather than plunging scrap steel and other commodity prices.  It is puzzling to me how Alan Greenspan can believe we had a near freeze-up in financial markets at a time that commercial bank assets were growing at a 15 to 20 percent annual rate as Fed open market operations were buying enough T-bills to keep a ceiling on the funds rate as banks were selling securities to make loans.

Over the last 6 months the price of gold has taken another fall as central banks correctly believe that the dollar is a better store of value than gold.  From my perspective this is not an appropriate condition for a tilt in the directive toward restraint.  The price of gold is determined in a market that anticipates a 5.25 percent funds rate.  I would prefer to see the extent of an up-tick in the price of gold with a 5.0 percent year end funds rate expectation.

Wayne

----Original Message-----
From: Jude Wanniski [SMTP:jwanniski@polyconomics.com]
Sent: Monday, August 02, 1999 5:03 PM
To: Kevin.L.Kliesen@* * * * .org
Cc: Serickson@* * * .com
Subject: monetary deflation

Reply to st louis fed economist kliesen... who replied to Stanford Erickson's Farm Journal editorial on the monetary deflation.

Unless your analytical model operates on the assumption that the dollar gold price is the single most important signal of relative changes in the supply/demand for dollar liquidity, you could not have foreseen the dramatic decline in dollar prices for farm commodities. I began warning Greenspan in January 1997 that there would be a commodity price deflation as a result of the dollar gold price sinking below $350, carrying all other commodities in its train. The St Louis Fed, of course, has traditionally been hostile to gold and fixed rates of exchange around the dollar/gold price. Milton Friedman essentially captured the St Louis Fed 30 years ago, and through it much of the political clout of the Senate and House banking  committees.

The healthy profits of farmers in 1995 and 1996 was partly the result of the mini-inflation that saw gold rise from the $350 level to the $385 level in 1993, when the Clinton tax increase went into effect. The decline in the demand for dollar liquidity was not offset by open market operations to mop up excess liquidity, which is why gold rose 10%. That little inflation helped pull up commodity prices, encouraging farmers and miners to produce more to capture marginal profits.

The tremendous export market enjoyed by American agriculture during the years 1986 to 1996 was the result of dollar stabilization worldwide. Asian countries pegged their currencies to the stable dollar, and their economies took off as the currency risk diminished. In 1993, they also inflated in keeping their currencies pegged to the dollar, and as with all  inflationary periods, commodity producers benefit first and fastest. It is a monetary deflation that producers the killers for commodity producers. None of the Fed economists saw it and Greenspan had to pretend he didn't see it, after he first thought he could skip past it. He broke off our friendship in October 1997 when I told him his deflation was causing terrible pain and suffering throughout the world of commodity producers... the poorest countries of the world.

Your analysis, Mr. Kliesen, is of course flawless inside your own model. But your model did not permit you to predict the future, and so you rationalize the past by blaming everyone who is not involved in Fed policy... just as Greenspan has. You put a smiley face on it, but when all is said and done, you say farmers are to blame for producing too much. Too many farmers, too much food. The world should go on a diet, says the St Louis Fed. Take another look, please.

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