Thinking about Deflation VIII Jude Wanniski July 13, 1998

During a visit to Chicago clients last week, Wade Fetzer of Goldman Sachs told me he recently had talked to a Fortune 500 chief executive officer who confided that after 20 years of trying to understand inflation, he is no closer now than he ever was. The comment struck a chord because it is 20 years since The Way the World Works was published and 20 years this month since Polyconomics was incorporated and I began sending out these missives to the industrial and financial community. And still, there are times like today when I feel there’s been no movement at all in conventional wisdom. 

The lead story in Sunday’s New York Times, by David E. Rosenbaum, is about the desperate plight of farmers and ranchers in the Northern Plains, “where wheat and livestock prices have plunged.” Nowhere in the story is any mention made of the $100 decline in the price of gold that preceded the fall in wheat and livestock prices. In Saturday’s Times, Jonathan Fuerbringer has a report of a few thousand words on the worldwide decline of dollar commodity prices, with oil down to $11 a barrel from $20 a year ago. Fuerbringer walks us through every commodity that has come down, blaming it all on the Asian crisis, “Swamped by Asia’s Wake.” Never once does the word “gold” appear. If it did, Fuerbringer might have to mention that it led the parade downhill and that its decline preceded the Asian crisis -- which would disrupt his theme that the Asian crisis caused the decline in commodity prices. The argument that the decline was caused by the Federal Reserve starving the world for dollar liquidity might then get too close for comfort to Fuerbringer, who over the years has refused to acknowledge any connection between monetary policy and the only remaining monetary commodity, gold.

In Sunday’s business section of the Times, Gretchen Morgenson now writes the Market Watch column as Floyd Norris moves on to write economic editorials. Both came from Forbes, where Steve Forbes won several journalistic awards for his forecasting prowess, based on his awareness of gold’s importance as the primary inflation/deflation indicator. Morgenson was his press secretary in his 1996 presidential run. She devotes her column to a dopey analysis of Martin Armstrong of Princeton Economics International, who predicts “a bull market in the dollar that won’t peak out until 2002.” Armstrong predicts a dollar/yen rate of 200 a year from now. If the yen gold price does not increase from ¥40,000, this means the dollar/gold price will fall to $200 per ounce, and the decline in wheat, livestock and commodities would bankrupt every farmer, rancher and miner in the U.S. Armstrong’s analysis is the kind of cash-flow silliness one finds rampant among Ph.D. economists. It depressed me to find it getting such breathless play from Morgenson. Then again, looking back over 20 years, I can recall only two reporters at the Times who made any attempt to understand supply-side economics: Susan Lee, who transferred from The Wall Street Journal editorial page, stayed at the Times for a few years and left; and Peter T. Kilborn, a Treasury reporter in the mid-1980s, who was transferred to an unrelated beat soon after he began to get the hang of classical economics. 

In all these years, The Washington Post never had a reporter who tried to figure it out. In 1990, E.J. Dionne, Jr., a Post political writer, did a long essay announcing that Jude Wanniski and George Gilder, the two “economic gurus” of the 1980s were now obsolete, and that Robert Reich and Robert Kuttner would be the gurus of the 1990s. In the 1980s, the Post reporters and editors called me not more than four or five times, so it is no surprise there is almost no grasp of why the global deflation is ravaging populations and causing political upheavals. The Wall Street Journal is where supply-side economics made its comeback after going into decline with the 1929 Crash. It was more than 20 years ago that Robert L. Bartley wrote on the editpage that “Wanniski has discovered a lost continent of economics,” but the ideas have never progressed beyond the editorial page. The Washington Bureau of the WSJ maintains an outright hostility to these ideas, which leads its top Treasury reporter, David Wessel, to write the “Outlook” column today on the incredible confusion among “the best economic minds in Washington” about what’s going on in Asia. That is, Bob Rubin and Larry Summers at Treasury, Alan Greenspan at the Fed, and Stanley Fischer at the IMF. The column reveals that nobody knows what the hell is going on, including Wessel, who once called me earlier this year, trying to get me to say something bad about Steve Hanke, who was getting in the IMF’s way with his idea of a currency board for Indonesia. 

Bartley could explain what’s going on, but he has been totally consumed for the past five years trying to bring down the President over Whitewater or Whatever. He has permitted Claudia Rosette of his staff to nibble at the edges of the deflation story. But during gold’s 18-month decline, instead of beating on the Fed to supply liquidity, the Journal retreated behind Wayne Angell’s argument that falling prices can’t be bad if the economy and the stock market are rising. “This is not a deflation,” Angell, chief economist at Bear Stearns, e-mailed me last week. What is it? “Disinflation,” he says, the hokey term Keynesians cooked up to justify falling prices through economic contraction. After all these years, Angell is no closer to understanding inflation or deflation than the CEO I heard about from Fetzer in Chicago. Nor is the collective wisdom at Solomon Smith Barney, the largest brokerage firm in the world, which broadcast this July 2: “[t]he SSB economic team is calling for the Fed to raise short-term interest rates by year end in order to absorb excess liquidity that has developed from the run-up in equity markets and the rapid growth in domestic demand.” They get paid for this?

To be fair, this is the first time this combination has occurred in history, so it has a funny look to it. If the 1981 Reagan tax cuts had not been phased in but had taken effect immediately, we would have had this look: Commodity prices falling even as the stock market and general economy expanded. Dollar debtors are being hammered where their incomes depend on wheat and livestock and oil, and so are their creditors, the small banks of the midwest and oil patch. I suggested to Angell, who has been a farmer as well as a banker, that he read Ludwig von Mises, who 50 years ago wrote that monetary deflation is so rare that people don’t recognize it when they see it. In the past, it has only occurred when a government has purposely driven down the price of gold in its monetary unit, preparing to restore a pre-war gold peg. France combined its 1925 deflation with a tax cut, but the franc was not the world currency, so it had no deflationary effects beyond its colonies in Africa. The British deflation of 1925 was cold turkey, no tax cut.

Where does this lead? On average, everything is fine, here at least. But the gap between those people and places being lifted up by positive fiscal policies and those being dragged down by negative monetary policies will widen -- until the Fed adds liquidity. A monetary deflation can only be corrected with better monetary policy, just as a contraction caused by higher taxes or tariffs cannot be corrected with easy money. Until we see more politicians and media complaining about the Fed instead of Asia, we can’t expect a correction at the Fed.