Thought Offerings: Deflation Watch (September): Price Level Trends Relative to Past Debt Crises

This post updates the charts from Price Deflation Today versus the Great Depression and Post-1990 Japan — Comparative Charts (which had data through July) and the August data update with the data for September. The original post contains the most in depth discussion of the comparisons between the three episodes, so please look at that if you have not already. My current plan is to update this post each month after PPI and CPI data is released as long as the comparisons remain interesting.

These are my definition related comments from the previous post:

As noted previously, "deflation" is often discussed in broader terms than simply price level:
Contraction of money and credit (broad money supply)
Deflation in asset prices
Deflation in a representative "basket" of consumer and producer prices
Deflation in wages
The various measures are often somewhat correlated but they only track to each other loosely. In the Great Depression prices fell faster than wages, yet wages (along with asset prices) still fell enough to propagate the adverse feedback loop of debt deflation in which income falls but debt obligations remain at the same nominal level, increasing the burden of the debt. Deflation in asset prices (triggered by the bursting of debt-financed asset bubbles) generally precedes the other deflationary trends.

Some Relevant Current Articles

In BLS Owner's Equivalent Rent Numbers From Twilight Zone, Mish looks at the surprisingly small decline so far in rent and owners-equivalent-rent measures:

"With home prices crashing year-over-year and both housing rents and apartment rents dropping as well one might think that falling rents would be reflected in the CPI."

Mish subsequently looks at the September CPI data in Year-Over-Year CPI Negative 7th Consecutive Month; Rents Decline First Time In 17 Years.

While many have expected falling rents and their eventual impact on reported CPI, Calculated Risk has been bringing the topic up more recently, for example, here:

"Anyone analyzing the tax credit should call the economists at the BLS and ask about how falling rents will impact owners' equivalent rent and CPI. Then call the economists at the Federal Reserve and ask how CPI deflation will impact consumer behavior and monetary policy. Welcome to the Fed's nightmare."

The BLS methodology for calculating owners' equivalent rent (weighted at 23.8% of the entire CPI!) is to survey homeowner households. Given people's likely lack of close knowledge of the current rental market, lack of objective perspective of their own home's rental value, and lag effects of changing home prices, rents and perceptions, it is no wonder that the BLS measure has not fallen at the rate anecdotal experience suggests it should have. The BLS says on its guide to Consumer Price Indexes for Rent and Rental Equivalence:

"However, the expenditure weight in the CPI for rental equivalence is obtained by directly asking sampled owner households the following question: If someone were to rent your home today, how much do you think it would rent for monthly, unfurnished and without utilities?"

In China’s September data suggest that the long-term overcapacity problem is only intensifying, China expert Michael Pettis discusses (among other topics) the level of China's commodity imports. He quotes someone else regarding China: "the recent pace of commodity import growth has been much faster than justified by the rise in current demand." Pettis then says:

"It seems that there may be another explanation, and that is stockpiling by private investors. From what I am being told, it seems that a number of wealthy Chinese investors have been speculating directly in commodities, and so some of this inventory buildup is occurring not at the company level but at the investor level."

The potential for a sharp drop in commodity imports by China (if this inventory build is accurate and if it turns out to not be sustainable and if real demand doesn't catch up quickly) is one of the reasons, even if the odds could be small, that I believe there could at some point be another commodity price "crash" similar to the second half of 2008. Those are a lot of "if"s, and they are not the only factors involved. But if commodity prices crashed in the context of other CPI components already in mild decline (food and shelter in particular have moved in this direction recently), then unlike in 2008 in which inflation in many CPI components was still high, the conditions would be more similar to the starting conditions of the self-reinforcing deflationary spiral during the Great Depression. To recap the 1930s experience, look at the Great Depression CPI Components chart later in this post (and past posts) — in 1929, before CPI started dropping rapidly, only food prices were in a rising trend — everything else was already declining.

In The September CPI with all the trimmings, Macroblog at the Federal Reserve Bank of Atlanta discusses whether the recent CPI changes really show "broad based" increases, and concludes:

"An interpretation of these data is that the September CPI increase was anything but broad-based. Moreover, the data seem consistent with the idea that prices overall are on a path of disinflation."

I'll start including a trimmed CPI chart with the others (below).

Price Level Charts for September

CPI-U 12 Month Changes, 1999 to Present (US) (source)