Mulch

I read too much. But lately I read a really cool justification for reading too much. From someone who also reads, er, too much. It’s Tom Hodgkinson’s ‘How to be Free’. His view; the brain needs mulch. Fertilizer. Compost. There are whole books on compost – do it right and the mulch turns active in a couple of weeks. A less expert effort takes a year.

Why does the brain need mulch? Well, it’s stuff for the brain to work on. To process. And the beauty of it is you’re not the best person to judge its value. Your brain is. Later.

So the thing I’m mulching is this; the parallels between now and the late 1960s and ‘70s. The other thing I’m mulching is the differences.

The first parallel is the self-reinforcing shortages. Here’s a quote from Adam Smith’s ‘Paper Money’, the difficult third book (Both ‘The Money Game’ and ‘Supermoney’ were best sellers. ‘Paper Money’, er…). The thing about Smith, he was such a writer – I still hang on his every word. So here’s his intro to ‘Paper Money’;

‘Every once in a while, almost a decade ago, I would get a skidding feeling. You know the feeling. You are in your car, listening to the radio or just thinking, and very momentarily, the wheels are not solidly on the road, which is wet from rain or snow. Subliminally, you sense that slide, you snap back to awareness, you react. I was getting this feeling, not in a car, but sitting at a desk, reading about prices and money rates.’

So what happened? Something to do with La Nina. It caused a dearth of anchovies off the coast of Peru. Problem was, no anchovies, no cattle feed. Peru starts importing soy to feed the cows. Food gets tight. Russia bans wheat exports. Sound familiar?

But there are deep differences. We are still seeing real productive change. We’re seeing massive deflationary growth in all things media – from the price of calls, to broadband and publishing.

A couple of posts ago I added to the internet’s general ability to pass on rubbish. I said TV prices were down 28% YoY. They’re not. Official numbers show TV prices down 18%. Until you ask for the shops ‘best price’. Try it, it works. At least it does on Totenham Court Road.

There’s little doubt that tech and the net are a source for deflationary growth. And tech culture reinforces this trend. The memes – the fashionistas of tech are all about working to save costs. Pay £500 for office works. Forgeddaboudit. They’ll use freeware, or Google etc.

So what’s more important. My bet – the inflation. A key issue is that China has turned. Back in 2003, unit labour costs in China were falling 2-3%. Even with decent wage growth. Now, unit labour costs are rising 2-3%. And if we look around the world, there are several places where the rise in labour costs looks like more than just the passing down of growth – it looks like rising inflationary expectations. India, Russia, the Ukraine and Hungary all spring to mind.

There’s a good word 13d – the consultants – use to describe the current situation; concatenation. It’s when disparate factors start to reinforce themselves.

The anchovies and Russia’s banning wheat exports in the 70s is an example of concatenation.

There are maybe 20 concatenating series developments I can see right now. Here’s just one example.

South Africa invests too little in power infrastructure. Power prices rise and mines see power rationing. Oil demand rises sharply as firms use oil fired generators to service power needs. Chrome prices rise due to higher costs and lower production. Specialist steels rise in cost and face shortages as a result of reduced availability of chrome and other additives. Costs of oil drilling rise due to rising costs of specialist pipe and other equipment. Projects are delayed. Oil prices rise.

And so it goes.

So what breaks these self reinforcing cycles? In my view one thing, and one thing only; higher rates in the States.

Right now the currency and resource markets are trading around because the US is picking up while Europe is slowing fast. Over the next couple of months we could easily see sentiment on European rates turn more negative than in the US. And that makes the ground ripe for an upward correction in the dollar.

But the big issue for me is how the US economy behaves after the tax boost. My view, it rolls straight over. The April retail sales data, which the market got excited about on Tuesday, showed a very dangerous development. Most of the rise in sales was to cover higher oil and food costs. Everything else suffered. That is not a positive development. In my view, US consumers are getting crowded out. The fact that mortgage costs have not really fallen back, despite the fall in Fed funds, and that house prices are now suffering serious downside momentum – all suggest that the US is going to head back down again come the autumn.

And that suggests to me that we’ll get another bout of reflation, another bout of dollar weakness, and another bout of commodity strength before the year is done. Come winter, we’ll be concatenating again.