Betting On Inflation

They say that in comedy, as in life, “timing is everything”. 

There are, of course, a number of certainties in life, a few of which I spoke to in the Woodshed recently.  But, the timing – even of those certainties – well, that’s another matter. 

Naturally, it’s even harder to pin down the timing of less certain probabilities….such as the rate of change we might expect in various economic metrics…the price of gasoline, the strength of the dollar, the real rate of unemployment or inflation, year-over-year housing prices, etc.  

Ahhh, easy or not, the betting on these various uncertainties, well, that it seems we must do, regardless.  The good news is that it’s actually getting a bit easier to make those bets.  The bad news, of course, is that it’s getting easier to make those bets.

A little more than two years ago, I made an informal bet with our Harry Dextor White that “the dollar would be unrecognizable within five years.”  So, how’s that one going, you might ask?  Well, it all depends on how you measure it, now doesn’t it? 

That dollar will buy you a bit more house now, but much less gold, silver, oil, wheat, beef, or cotton.  Of these, in Mr. White’s opinion, “the only one that counts” is oil.  Given the strategic linkages involved with energy costs…including, I might add, how it indirectly feeds back and undermines the strength of the dollar, it is hard to argue his point.  And, it makes my bet a little bit more assured.

His latest counter bet for us to consider:  $5 gasoline by Christmas, yeah or nay?  That’s nine months away and, based on the current trajectory, should be a lock, or will it?  My first instinct was, OK, I’m in, I believe that’s reasonably likely.  (Hey, that’s why I put at least one efficient 45+mpg car in the stable.)  My second instinct was to begin to hedge a bit….how about $4.68 by year’s end? 

But, then again, does it really matter where you put the break point?  Maybe, maybe not.  What’s more than a bit scary is just how assured we can be that the price will be higher, probably much higher….although, how much higher is anybody’s guess.  Still, it will be higher. 

Of course, it is the making of such statements that will get any prognosticator into trouble.  I went out on that limb with my assertion that the dollar was on the way down two years ago.  In the context of this oil question, then, I asked Mr. White what level of decline constituted, in his opinion, “unrecognizable”, to which he proffered “an order of magnitude”. 

That, as it happens, would mean a 90% decline in the purchasing power of the dollar or, alternatively, a 10X (1000%) increase in the amount of dollars needed to buy whatever you might care to name.  I’ll go with HDW and stick with oil; that, as noted above, helps my bet.  

For the sake of the argument, that would mean $300 per barrel or so…from the February 2009 bottom at $31.  So far, we’ve risen nearly 3-1/2X or 350% from that point.  Still a ways to go yet, but it is moving in the right direction, no question about that.  Sure, the recent spate of unrest in the Middle East is having a significant effect.  But, even that, you might argue is at least partly the result of economic distortions related to US monetary policy.  Hey, in for a penny, in for a pound.

Again, I should be grateful that Mr. White has nominated oil to be the metric here.  You see, he could have held out for the CPI.  Now, if you were to trust our government (and really wanted to win his side of the bet), you’d assert that the dollar has held up really well, only losing 3.8% or so since February 2009 (not 70% as it has with oil).  Shoot, for a while there in 2009, the CPI was actually going down….partly as a result of the BLS hedonic magic.   

In fact, Ben Bernanke tells us, that – even now – there’s just not enough inflation, thereby justifying his quantitative easing.  You can be very sure that Ben would have taken my bet two years ago, but that we’d have had a very hard time indeed selecting the appropriate metric. 

John Williams, of Shadowstats fame, on the other hand, might have hedged that bet.  His latest figures put inflation in the range approaching 10% per year and, if the recent past is any guide, going higher still.  The recent spike in energy costs aren’t helping, of course.

Naturally, I’ll take Mr. White’s offered oil metric and, hmmm, “hope for the best”.   “Term-oil” in the Middle East notwithstanding, my bet is looking good.  I wonder what it will cost me to win?

Harry Tuttle



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