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Thursday, January 8, 2009

Time Travel: Equities Adjusted for Real Inflation

The excellent post Fun with Gold over at EconompicData reminded me of an old post of mine called The Lost Decade which was an update to the post the 11th Hour. I’ve posted the updated chart of the S&P500 / Gold ratio.

As of right now, equity values adjusted for real inflation now put us back to 1989!

In Fun with Gold the charts of the Case-Shiller Composite / Gold ratio are very informative. In terms of gold, house prices have absolutely crashed all the way back to 1997 levels!

When the S&P500 (SPX) hit the old record high set in late 2000, everybody got excited. It looked like the economy was doing well and the markets were doing well. Nothing was further from the truth. It was all an illusion.

In nominal terms, the S&P500 had indeed made it back to the old high. However, in real terms the S&P has been in a seven year Bear Market.

To adjust the S&P 500 for inflation look at the SPX:GOLD ratio chart. Purchasing power, as measured by how much Gold it takes to buy the S&P 500, had been rising steadily since before 1980. Then in 2000 something 'broke' and purchasing power has been declining rapidly ever since.

The effects of years of both terrible fiscal and monetary policy started to manifest themselves in 2000 when the great 'Tech Bubble' finally burst. At the time the Fed had a clear choice: Let the bubble deflate and clear the path for strong future growth, or delay the inevitable with a massive injection of liquidity by cutting rates to 1%. At the time it was INFLATE or CORRECT. The Fed chose INFLATE. The current global real estate and liquidity bubble was the result as other central banks largely employed the same policies. (You can thank Alan ‘The Maestro’ Greenspan)

Official measures of inflation (such as CPI) greatly under estimate inflation. The formulae and the contents of various inflation calculations are all in debate. No matter. Keep it simple. Look at Gold. Gold has risen sharply and has now accelerated its rise. Or put a number of other ways: Your purchasing power is DISAPPEARING. INFLATION is HIGH and ACCELERATING. (Just yesterday the Fed actually came out and explicitly promised to STEAL at least 1% of your wealth annually via inflation.)

What does all this mean? The SPX:USD ratio chart illustrates what the S&P 500 chart would have looked like had the US dollar stayed even instead of declining like it has and continues to do so.

For most of 2008 the US dollar plunged from record low to record low. Now with a zero interest rate policy and quantitative easing, the dollar can only continue to decline as the US economy continues to weaken. BOTTOM LINE: The last Bull market was nothing more than a great illusion. Equity price gains haven't even been able to keep up with REAL INFLATION (Gold). Eventually, (after a period of deflation due to massive credit destruction) Fed policies (quantitative easing) and a falling US dollar will result in a SERIOUS wave of inflation.


Anonymous said...

Could not correct: had to fund massive defense spending increases starting in 1980.
US military sector has been sucking US taxpayer dry, a productive-blue-state to unproductive(military)-red-state transfer. That would end without "threats to America".
The real threat was that there would be no credible "threat to America" and that the military-$$ gravy train would stop running in the Southern US.
Guns won, butter lost, we all have to 'share the sacrifice".

Anonymous said...

if you re-did all the charts with the 'real' inflation numbers it would be 100 times worse...impossible... but if the charts used car prices or food prices changes going back to 1920 it would be amazing.

i still get the arguement that 'you make more money today' than we did in 1965....yes but product prices went up exp more.......

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