23.5.09

DEFLATION MYTH

This week saw a sudden change in attitude to UK and US indebtedness.

Midweek, UK investors were happy to lend to the UK government, bidding healthily for an early tranche of the massive 220 Billion pounds it needs to raise this financial year alone.

Then came Standard & Poors which said it had the UK on creditwatch, and was minded to cut the UK's credit rating (it merely lowered its outlook, no the actual rating).

UK and US markets sold of sharply. Why the sudden loss of confidence?

TOTALLY FOOLED

The FT quotes a Deutsche Bank analyst note, saying there's a risk that people who buy debt will find their asset falls in value when the UK finds it cannot actually raise/sell the full 220 Billion.

If the UK cannot refinance its borrowings, then what?

"The best possible (actually least bad) solution for the economy is for inflation to come back quickly enough for the huge Western World debt burdens to be eroded. However for this to succeed the bond market perhaps needs to be totally fooled. If it gets wind of higher inflation then we may be back to square one as funding problems arise or panic ensues."

FIRMLY ASLEEP

"We think that it is inevitable that inflation eventually comes back in a fiat currency world but that it is going to be much harder to create than the market thinks. But perception is often more important than reality so we need to be aware of that."

I've consistently argued inflation is the threat and deflation is a smokescreen. Liam Halligan is one of the few others who state this explicitly.

This week, the markets twitched in their sleep. They didn't wake up. For now the markets are firmly asleep.

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