FORECASTS & TRENDS E-LETTER
by Gary D. Halbert
September 22, 2015

IN THIS ISSUE:

1. Fed is Worried About the Global Economy & Deflation

2. Deflation: Why Falling Prices Are Bad For the Economy

3. Yet Another Government Shutdown Looms Large

4. Federal Debt Totals More Than $107,000 Per Household

5. Rare “SuperMoon,” Lunar Eclipse & “BloodMoon” Sunday

Overview

Once again this week, we touch on a variety of topics that piqued my interest over the last week. We begin with some further analysis of the Fed’s controversial decision to hold interest rates near zero last Thursday. While this was the topic of my Blog last Thursday, I have more analysis today that I think you’ll find interesting.

One thing I conclude from the Fed’s decision last week is that Fed Chair Janet Yellen and a growing number of her colleagues are worried about deflation spreading to the US. Since most Americans living today have never experienced a prolonged period of deflation, we should talk about it at least briefly to understand why falling prices are bad for the economy.

Next, as much as I hate to bring it up, we could be facing yet another government shutdown at the end of this month. Fiscal Year 2015 ends one week from tomorrow, and Congress has not passed a budget for FY2016. As a result, the government could effectively shut down starting on October 1. Here we go again.

From there, we look at a new report which finds that the $13 trillion in government “debt held by the public” equals a record $107,000 per US household. Yet if we include all of our national debt of $18.4 trillion, that number goes up to over $150,000 per household.

Finally, a rare combination of celestial events will grace the night sky later this month. NASA says a SuperMoon, a BloodMoon and a lunar eclipse will take place on the night of September 27, this coming Sunday. This rare event has happened only five times since 1900, most recently in 1982, and there won't be another one until 2033. Read about it at the end of today’s E-Letter so that you won’t miss it this Sunday night.

Fed is Worried About the Global Economy & Deflation

By now everyone reading this knows that the FOMC decided to leave the Fed Funds rate unchanged at 0.00%-0.25% last Thursday. That decision probably means the key interest rate won’t be raised until the Fed’s December policy meeting, or maybe not until sometime next year. As I discussed in the Blog on Thursday, the Fed is concerned that inflation is not trending towards its 2% target, and may move even lower in the near-term.

The Fed also voiced concerns over recent global economic and financial developments such as slower growth in China and other emerging countries, as well as sharp declines in the equity markets in most of the same nations. The Committee also worried that these developments could weigh on the US economy at some point:

“Recent global economic and financial developments may restrain [US] economic activity somewhat and are likely to put further downward pressure on inflation in the near term… The Committee continues to see the risks to the outlook for economic activity and the labor market as nearly balanced but is monitoring developments abroad.”

In addition to the decision not to raise the Fed Funds rate at this time, the Fed suggested that once it does raise the key rate, it will likely move very slowly with regard to subsequent increases. The Fed’s policy statement was quite dovish:

“The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.”

As scheduled, the FOMC released updated economic, unemployment and inflation forecasts. The Fed downgraded its forecast for GDP each year through 2017. The good news is that the Fed expects the unemployment rate to possibly fall slightly below 5% in 2016 and 2017, as you can see in the table below.

Most surprisingly, the Fed concedes that it could possibly be 2018 before the Personal Consumption Expenditures Index of inflation reaches the Fed’s goal of at least 2%. The forecast range for 2017 is 1.8% to 2.0%. The Fed lowered its inflation ranges for 2015 and 2016.

In her press conference after Thursday’s FOMC meeting, Chair Yellen addressed the issue of the lower inflation forecasts:

“Inflation, however, has continued to run below our longer-run objective, partly reflecting declines in energy and import prices. While we still expect that the downward pressure on inflation from these factors will fade over time, recent global economic and financial developments are likely to put further downward pressure on inflation in the near term.”

This is the Fed’s way of acknowledging that there is deflation in parts of the world that will contribute to lower inflation in the US. It will be interesting to see the minutes of last week’s meeting (to be released next month) to see if the Committee actually discussed the subject of deflation – which is a central banker’s worst nightmare.

The Fed’s last two policy meetings this year are October 27-28 (no press conference) and December 15-16.

Deflation: Why Falling Prices Are Bad For the Economy

As noted above, I think the Fed is worried about deflation. Yet most Americans living today have never experienced a widespread bout of deflation. In economics, deflation is a decrease in the general price level of goods and services. Deflation occurs when the inflation rate falls below 0% (a negative inflation rate).

A general decline in prices is often caused by a reduction in the supply of money or credit. Deflation can also be caused by a decrease in government, personal or investment spending. The opposite of inflation, deflation typically has the side effect of increased unemployment since there is a lower level of demand in the economy, which can lead to an economic recession or depression.

Central banks attempt to avoid deflation by manipulating monetary policy in an attempt to keep a widespread drop in prices to a minimum. Historically, the Fed has used monetary policy to increase the money supply and deliberately induce rising prices, causing inflation. Gently rising prices are thought to provide an essential lubricant for a sustained economic recovery.

Declining prices, if they persist, generally create a vicious spiral of negatives such as falling profits, factory closures, shrinking employment and incomes, and increased defaults on loans by companies and individuals. Deflationary periods can be both short or long, relatively speaking. Japan, for example, has been in a period of deflation lasting decades starting in the early 1990's. The Japanese government lowered interest rates to try and stimulate inflation, thus far to no avail.

One might think that a general decrease in prices is a good thing, as it gives consumers greater purchasing power. To some degree, moderate price drops in certain products, such as food or energy or computers, do have some positive effects on consumer spending. Yet a widespread, persistent fall in prices can have severe negative effects on growth and economic stability.

Deflation typically occurs in and after periods of economic crisis. When an economy experiences a severe recession or a depression, economic output slows as demand for goods, services and capital investment drop. This leads to an overall decline in asset prices as producers are forced to liquidate inventories that people can’t afford to buy.

Consumers and investors alike begin holding on to liquid money reserves to cushion against further financial loss. As more money is saved, less money is spent, which further decreases aggregate demand. It can be a vicious cycle. This explains why deflation is a central banker’s worst nightmare.

It remains to be seen if our super-low inflation environment will devolve into deflation, and whether or not the Fed will be able to head it off.

Yet Another Government Shutdown Looms Large

The end of Fiscal Year 2015 is just one week from tomorrow on September 30. No surprise, Congress has not passed a budget for FY2016 which begins on October 1, 2015. The last time we had a government shutdown was in October of 2013.

From October 1 through 16, 2013, the federal government entered a shutdown and curtailed most routine operations because neither legislation appropriating funds for FY2014, nor a “continuing resolution” for the interim authorization of appropriations, was enacted in time. Regular government operations resumed October 17 after an interim appropriations bill was signed into law.

During the shutdown, approximately 800,000 federal employees were furloughed, and another 1.3 million were required to report to work without knowing when they would be paid. Only those government services deemed “excepted” under the Antideficiency Act were continued.

The current budget battle is particularly acrimonious due to the recent “Planned Parenthood” controversy, sparked by new videos alleging that the organization harvests and sells fetus body parts for profit. If true, Planned Parenthood should not receive taxpayer funding from the government. The problem is, it is not entirely certain what is happening at the women’s health provider, and the videos’ credibility has been called into question.

Last Friday, the Republican-controlled House of Representatives passed the Defund Planned Parenthood Act by a vote of 248-177. The bill strips the women’s health provider of its government funding for all services – unless it stops performing abortions and selling fetus body parts. The bill would presumably be attached to the federal budget submitted to President Obama. It has not yet been voted on in the Senate.

Mr. Obama has vowed to veto the bill if it passes both Houses of Congress, thus increasing the odds for a possible government shutdown just ahead. Some congressional Republicans have vowed not to vote for any budget that includes funding for Planned Parenthood. 

At this point, it is not clear how this budget battle will play out. The last time this drama played out in 2013, the Republicans paid dearly for the government shutdown. The party emerged with no progress on defunding or delaying Obamacare (the issue at the time), and its lowest approval rating ever recorded by Gallup.

Most Republican leaders in the House and Senate see no reason to think a shutdown this year would be any different. But many conservatives contend that this battle should be fought, even if there is a government shutdown. Again, it is impossible to know how this controversy turns out, but it makes the likelihood of a budget resolution by the end of the month very unlikely.

The growing likelihood of another government shutdown in October will only make market volatility increase even more in the next couple of weeks. Oh, and don’t forget that we have another debt ceiling fight coming up in late October. That will only add to the fireworks.

Federal Debt Totals More Than $107,000 Per Household

The US national debt now stands at almost $18.4 trillion and rises every year. Of that gargantuan amount, about $13 trillion is “debt held by the public” (as opposed to the other apprx. $5.4 trillion in so-called “intra-governmental debt”).

A new report from the Cato Institute this month calculates that the $13 trillion in debt held by the public amounts to apprx. $107,000 per household in America, the largest ever. Even worse, this amount has doubled over just the last seven years!

According to Cato, financing government debt through tax collection creates distortions since much of federal spending goes to government subsidy and benefit programs, which reduce incentives to work and savings. It estimates that due to the bloated size of government “it costs taxpayers $3 to provide a benefit worth $1 to recipients.”

Keep in mind that debt held by the public is only part of the total national debt. Many politicians and national debt number-crunchers argue that the $5.4 trillion in intra-governmental debt shouldn’t count toward the national debt.

I have long maintained that the intra-governmental debt – debt that government agencies owe to each other – should indeed be counted as part of the national debt. After all, these debt securities regularly mature and must be rolled over (ie – be repaid) just like the debt held by the public. If these debts are included, then the amount per household jumps to over $150,000!

Rare “SuperMoon,” Lunar Eclipse & “BloodMoon” Sunday

I always say that I try to write about what interests me most, and this is what interests me most over the coming week. A rare combination of celestial events will grace the night sky on Sunday evening. NASA says a SuperMoon, lunar eclipse and BloodMoon will take place on the night of September 27, this coming Sunday.

A SuperMoon occurs when a full moon coincides with the moon’s “perigee” – the point in the lunar orbit when it’s closest to the Earth – making it appear apprx. 16% larger and brighter than normal. The SuperMoon on Sunday night is expected to be the closest one of 2015, a year that will see six SuperMoons in all.

A lunar eclipse, meanwhile, happens when the moon passes into alignment with the Earth and sun and briefly falls into Earth’s shadow. Space.com explains that during a total lunar eclipse, the moon often turns a reddish color when it’s hit by sunlight bent by the Earth’s atmosphere, resulting in a phenomenon called a “BloodMoon.”

It’s extremely unusual for a SuperMoon and total lunar eclipse to happen at the same time, as they will this Sunday night. NASA says it has happened only five times since 1900, most recently in 1982; there won't be another one until 2033.

The SuperMoon lunar eclipse will be visible throughout North and South America this Sunday, September 27, NASA said. The most likely time to view it is 9:00-11:00 p.m. in North America, depending on where you live, according to NASA. Those in Europe and Africa can see it in the early morning hours of September 28. Unlike a solar eclipse, which is dangerous to look at with the naked eye, experts say it’s perfectly safe to watch a lunar eclipse.

While this may seem an odd topic to appear in an investment E-Letter, I thought you would be interested to know about it. I’ll certainly be watching!

Finally, it will be All Pope All the Time with Pope Francis visiting America this week. What you may not know is that this Pope has some very controversial views. You might want to read the column by George Will in the links just below.

Best regards,

Gary D. Halbert

SPECIAL ARTICLES

Yellen may follow Bernanke template & hike in December

U.S Dollar Gaining Like It’s the 1980s – For Better or Worse

George Will: Pope Francis Is a False Prophet

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