The Deflation Times

To answer the question of whether we will have inflation or deflation in the upcoming years, we need to have an understanding of what these terms mean, and also what money is.

Money today is debt. Or, debt is money. The expansion of money in our economy is not by the increase of productivity, it is by the increase of debt. The expansion of money/debt has been increasing exponentially because of the application of the banks use of the fractional reserve 9:1 ratio. If you are not familiar with these ideas, we highly recommend you watch Paul Grignon's 47 minute animated presentation, 'Money as Debt', on YouTube.

One very simple way to explain the credit crunch would be to consider that the amount of interest payable on the debt owed became a figure higher than the population could earn. Hence defaults and the beginning of the sub-prime crisis and the toxic assets held by the banks. Why are they termed toxic? Because the original people who were debtors to the loans cannot pay them.

This explanation fits nicely with the Elliott Wave Principle. The last stages of the inflating debt bubble were driven by group psychology. Debt became easier to obtain- buy that house, stocks, TV now, no down payment, interest free for 18 months, being offered to practically everyone.

The expansion of money/debt is inflationary. As the amount of money circulating in a system increases, the perceived value of each note decreases. Just as if you were to add water to an alcoholic drink, it becomes less concentrated with alcohol, there is less value in money when it is diluted. So it takes more of it to buy the same stuff.

The opposite of this situation is what we have begun to see, and will see in a more extreme fashion in coming years. Fear has set in at the top of an inflationary cycle and more people will continue to default on their debts. Therefore, the willingness of banks to extend credit reduces. And because money is debt, with reducing credit we reduce the money supply. When there is less money being supplied we have deflation, which is the reducing value of stuff (very simply put).

Further examples of deflation: the stock market, from a high of 14,157 on October 2007, the DJIA fell to a low of 6,715 in March 2009; property markets around the world have plunged; oil has fallen from a high of $137.11 per barrel in July 2008, to a low of $34.57 in January 2009. Many consumer goods have become cheaper and the CPI of many countries is showing negative figures for the first time since the Great Depression.

Since these lows many markets have risen, but this is a bear market rally. Deflation will return because the underlying fear and pessimism is still there.

Because most of us have not experienced deflation in our lifetimes, we need to be prepared. If you are wondering how to protect your family and your wealth from deflation, you would be well advised to read Robert Prechter's Conquer the Crash, where he outlines very clearly what deflation is, how it affects you, and what you can do to not only avoid its negative consequences but also to prosper.

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The latest Elliott Wave Theorist issue (August 2008) challenges current recovery hype with hard facts and the main point is that the worst is NOT over. But more important, there is advice on what you can do to safeguard your financial future.

Contrary to Elliott Wave Theorist, most economists are predicting inflation ahead, rather than deflation. Every now and then an economist might admit deflation is possible, but will counter this with the argument that inflation will eventually reign. One of their arguments seems to be that the economic recovery has begun, and this will prevent the development of a deflationary spiral. But, are you willing to bet on the economists saying the recession is over?

Why can economists not entertain the concept of deflation? Partly, the answer is that they are so used to inflation being the norm, it has been the norm all of their lives, that they cannot comprehend such a massive shift. But just because we have not had a deflationary depression since the 1930's does not mean it cannot happen again.

Will we have deflation or inflation?

Despite a bear market rally we still have deflation. It's been happening in Japan for some time, now it's happening in Europe, in Britain, and in some states such as California. As the bear market returns in full force we will see deflation take a stronger hold. Credit expansion will slow further as banks become more wary of making loans, households will become more wary of spending as unemployment rises, retailers will be chasing fewer dollars and prices will fall. Stocks, commodities and property prices will all tumble again, to new lows. The funds to buy these will simply dry up as the full force of the collapsing credit bubble plays out globally.

Protecting your wealth in a deflationary scenario is very different to how it is done during times of inflation. Your approach should be very different, and this is why you need to be sure that you have the right prediction. Robert Prechter, using the Elliott Wave Principle, has been accurate in his predictions to date, and he is predicting deflation not inflation.

You will need specific information depending upon where your money is held. As the second wave of the credit crunch unfolds you will want to be able to pick winners before the race has run. You will want to know if gold really is a good place to put your money, or not. As times get tougher and deflation bites hardest you will need to know which are the safest banks, least likely to fail and most likely to return your money when you want it.

The Elliott Wave Theorist is for those who realise that Wall St has got it wrong. That very few mainstream economists predicted the credit crunch and resulting economic chaos. That of the few who did see what was coming, Prechter and Elliott Wave were among the most specific and accurate.

If you have wealth to protect you need regular updated information from people who clearly know what they're talking about. You need clear specific advice on how to avoid your assets value disappearing when deflation takes hold.

The mainstream media couldn't predict the biggest bear market in 100 years; how do you expect them to anticipate what will unfold next? Watch this quick video clip from financial analyst and sought-after speaker Steven Hochberg about why you should challenge the consensus view for inflation.

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The bubble of optimism from the top (US economy saved from 'catastrophe') will soon pop.

Employment numbers may support such 'saved the day' claim but even if businesses are now hiring it is likely to be just about everywhere you don't want to work.

A bigger contraction is on its way which will make it difficult, if not impossible, for continued optimism and programs, such as an overhaul of health care,
will not see the light of day.

Although the headlines appear rosier in America they are a bit different for Japan and England. Japan's eternal downturn is now entering a deflation period, according to the Bank of Japan.

Plus Mervyn King, the Bank of England Governor, also warns 'deflation remains a very clear and present risk'. Yes, indeed. But will the continued quantitative easing to fend off deflation work? We don't think it will.

The big global deflation turn is nigh and when it arrives there will be a loud pop.

The waves of euphoria that engulf Wall Street and the $2 Billion 'clunker' program, where you can get $4,500 for the purchase of a new car when turning in an older vehicle to be scrapped, will not stop the second flood of deflation that is still yet to come.

Contrary to the latest "all is getting better" headlines, the bear market is not over and the boom is not back.

Newton should have known better back when the South Sea bubble burst, back in 1720, after he lost a lot of money. This time around, the credit bubble has more bursting to do. Even with Wall Street buoyed up by the GDP report we see consumers still aren't spending. And until they do, everyone has to be wary of any recovery talk.

The main theme of desperate times calling for desperate measures, like Arizona state possibly selling its Capitol buildings, may have had a bit of respite but it'll be back, greater and harsher than ever.

Ouch!

A changing social-mood is what this deflation is about: the change from prolific spending (via credit) to fiscal conservatism, on a global scale.

New data from the Bureau of Labor Statistics shows imports are starting to drop again... watch out.



Last time this happened was less than a year ago. The last few months have been a break in the downturn but now the brakes are failing. Here comes the second wave of deflation.

President Barack Obama said last Friday that his administration saved the US economy from catastrophe and the worst of the recession may be over, after a surprise drop in the unemployment rate.

But is the worst over?

Bob Prechter's most recent Elliott Wave Theorist gives a warning he's never had to include in 30 years of forecasting - namely, that the worst is yet to come!

What's terrible is that so many people will be surprised when the wave of depression bowls them over. Unless they get tomorrow's news today.

Safeguard your financial future with Bob Prechter's FREE 10-page market letter and don't get caught by surprise by the depression wave.

In the October 2003 Elliott Wave Theorist (page 7) there is the forecast that by the time this economic collapse is over the "Federal Reserve System will be discredited and then abolished." Given the current circumstances the time is ripe for such an idea to grab hold.

Take Ron Paul's new book, End the Fed (out next month) as a starting point, where he "draws on American history, economics, and fascinating stories from his own long political life to argue that the Fed is both corrupt and unconstitutional."

Then add his proposed bill to audit the Federal Reserve (HR 1207), which has bi-partisan support in the House of Representatives, and we have the beginning of the end, for the Fed.

As the social mood continues to deteriorate, the Congressman's urgent appeal in his latest book, a combination of describing where it all went wrong and what needs to be done to fix America's economy, is sure to get a lot of attention.

A quick look at the real estate crash numbers and it is hard to believe that home values can go lower.

If over the past year "83% of U.S. homes declined in value" then there is only 17 more points left to go to reach the mark of '100% of U.S. homes declined in value.' A chart from Zillow's Q2 Real Estate Market Reports paints the current picture:



Can home values continue to fall?

The perception is that in the next six months home values will not continue to decline, as shown in Zillow's Home Value Misconception Index chart:



The reality is that home values will continue their decent down the deflation path as fiscal conservatism continues to penetrate all aspects of American society. And with more bad news coming down the pipeline, such as the next scandal, that of Fannie Mae's "$5.4 trillion in taxpayer liabilities" that remain off-balance-sheet, just like Enron and Citigroup had done before, the perception that the decline of home values will stop will be shattered.

In the October 2003 Elliott Wave Theorist ( page 8 ) there is the forecast that by the time this economic collapse is over "Social Security in its current form will fail."

Today, it is no secret that the population of the United States is aging and as more people over the age of 65 retire the strain on Social Security to pay benefits will continue to increase.

The question is, will it get to the point where it may not be able to pay any benefits at all?

Well, the Congressional Budget Office has updated its Social Security projections, for both outlays and revenue, and their chart (shown below) shows that Social Security is about to go negative real soon:



Because the ratio of workers to dependents is declining and the economic situation will continue to deteriorate, which equates to tax receipts declining as well, Social Security in its current form has to change or it will fail.

As we approach the end of the current bear market rally, we see a reluctance in the media to call this bear what it is. We see it repeatedly called a 'recession', and even hear current calls that we are coming out of it. We still see the softer, more unrealistic term 'credit crunch' in the US and overseas in countries such as Germany.


Name it! The continued bear market is going into a depression, to rival the Great Depression of the 1930's, and at the end of the day to eclipse it. For those who continue to name it and shame it, they'll be putting their heads in the sand and miss the opportunity to prepare themselves for the biggest financial shock of their lifetimes. To be unprepared for what's about to move from a slow grind into overdrive would be financial suicide.

The main meetings for the G20 Summit are today, Thursday. So far we have seen organized protests bringing disparate groups together from trade unions, aid agencies, religious groups and environmental organizations. The common cry from the protesters is that the globalized free market clearly has not worked to relieve poverty, and has bought the worlds economy to near collapse, devastating the environment.

They surely have a point, and until the beginning of March one could also have argued that the trillions of dollars so far spent and injected into the economy globally have not reversed the crisis.

To see what's really happening I turn to an analysis of the DJIA. This is because the DJIA is a barometer of social mood and an analysis of the trends in the stock markets can be useful in predicting the future, both economically and socially. So what's going on here?

The figure above is a daily chart of the DJIA from April 2008 to present, 2nd April 2009. A one year span. The numbers in red and blue are my wave counts, following an idealized Elliot Wave pattern.

We are in wave 2 corrective wave within wave C of the Grand Super cycle (downwards). Since early March 2009 the DJIA has been trending upwards, wave 2. Some good news, which could be interpreted by the media and hopeful individuals that the bottom has been reached, the bailouts are working, and whatever the G20 does will have been a success. But not so fast!

What happens after 2 has completed? We are in for wave 3 down. Third waves are characteristaclly stronger than 1 and 5. The future wave 3 downwards will be when the worst news and events take place.

Whatever happens after the G20 summit, we will see a return to failing economies and financial systems, with much more bad news to come before we reach a bottom. We will eventually be in agreement that the bailouts and massive injections of cash into the worlds financial system did not work.

There is hope however, at the bottom of wave C we will have a great opportunity to re structure our systems that have clearly failed. It's an opportunity for a massive paradigm shift, and my hope is that we have a new system that is based upon co-operation, caring and sustainability rather than our monetary system that is based upon competitiveness, consumerism and is unsustainable. Hopefully.

In the 1930s, Ralph Nelson Elliott, a corporate accountant by profession, studied price movements in the financial markets and observed that certain patterns repeat themselves. He offered proof of his discovery by making astonishingly accurate stock market forecasts. What appears random and unrelated, Elliott said, will actually trace out a recognizable pattern once you learn what to look for. Elliott called his discovery "The Elliott Wave Principle," and its implications were huge. He had identified the common link that drives the trends in human affairs, from financial markets to fashion, from politics to popular culture. Robert Prechter, Jr., president of Elliott Wave International, resurrected the Wave Principle from near obscurity in 1976 when he discovered the complete body of R.N. Elliott's work in the New York Library. Robert Prechter, Jr. and A.J. Frost published Elliott Wave Principle in 1978. The book received enthusiastic reviews and became a Wall Street bestseller. In Elliott Wave Principle, Prechter and Frost's forecast called for a roaring bull market in the 1980s, to be followed by a record bear market. Needless to say, knowledge of the Wave Principle among private and professional investors grew dramatically in the 1980s.

When investors and traders first discover the Elliott Wave Principle, there are several reactions:

 -Disbelief - that markets are patterned and largely predictable by technical analysis alone

 -Joyous 'irrational exuberance' - at having found a 'crystal ball' to foretell the future

 -And finally the correct, and useful response - 'Wow, here is a valuable new tool I should learn to use.'

Just like any system or structure found in nature, the closer you look at wave patterns, the more structured complexity you see. It is structured, because nature's patterns build on themselves, creating similar forms at progressively larger sizes. You can see these fractal patterns in botany, geography, physiology, and the things humans create, like roads, residential subdivisions%u2026 and - as recent discoveries have confirmed - in market prices.

Natural systems, including Elliott wave patterns in market charts, 'grow' through time, and their forms are defined by interruptions to that growth.

Here's what is meant by that. When your hands formed in the womb, they first looked like round paddles growing equally in all directions. Then, in the places between your fingers, cells ceased growing or died, and growth was directed to the five digits. This structured progress and regress is essential to all forms of growth. That this 'punctuated growth' appears in market data is only natural - as Robert Prechter, Jr., the world's foremost Elliott wave expert and president of Elliott Wave International, says, 'Everything that thrives must have setbacks.'

Basic Elliott Wave Pattern.

The first step in Elliott wave analysis is identifying patterns in market prices. At their core, wave patterns are simple; there are only two of them: 'impulse waves,' and 'corrective waves.'

Impulse waves are composed of five sub-waves and move in the same direction as the trend of the next larger size (labeled as 1, 2, 3, 4, 5). Impulse waves are called so because they powerfully impel the market.

A corrective wave follows, composed of three sub-waves, and it moves against the trend of the next larger size (labeled as a, b, c). Corrective waves accomplish only a partial retracement, or 'correction,' of the progress achieved by any preceding impulse wave.

As the figure above shows, one complete Elliott wave consists of eight waves and two phases: five-wave impulse phase, whose sub-waves are denoted by numbers, and the three-wave corrective phase, whose sub-waves are denoted by letters.

What R.N. Elliott set out to describe using the Elliott Wave Principle was how the market actually behaves. There are a number of specific variations on the underlying theme, which Elliott meticulously described and illustrated. He also noted the important fact that each pattern has identifiable requirements as well as tendencies. From these observations, he was able to formulate numerous rules and guidelines for proper wave identification. A thorough knowledge of such details is necessary to understand what the markets can do, and at least as important, what it does not do.

You have only just begun to learn the power and complexity of the Elliott Wave Principle. So, don't let your Elliott wave education end here. Join Elliott Wave International's free Club EWI and access the Basic Tutorial: 10 lessons on The Elliott Wave Principle and learn how to use this valuable tool in your own trading and investing.

Top news in the US this morning is Obama's response to the carmakers slowness to restructure. Americas mood is turning, from hope that the Government can bailout the economy, to distaste and anger at the behavior of those receiving Government money.

Last month there was the scandal of Wells Fargo accepting bailout money then throwing a lavish party with Sheyl Crow entertaining and guests receiving Tiffany gift bags. Then there was the AIG bonuses scandal, for none other than their Financial Services Division who got the giant into the mess in the first place. Now it's the carmakers turn.

When this financial crisis reached high enough for the slow cumbersome Government to become involved, the public mood was different. The public reasoned the banking and financial system needed help or we would all sink together, and bailouts were seen in a more positive light. Now the mood has changed.

We have been in a downwards cycle for a while now, and this cycle is made up of three main parts. The Elliott Wave Principle has three waves down, with A being down, B an upwards retracement and C the main wave downwards. Each part of this sequence has its own personality.

This mathematical and practical principle follows social mood, and different parts of waves have different personalities. That personality can be measured by social mood, in this case tolerance for perceived excesses of yesterdays heroes as they become todays villains.

This insight is more than just an interesting intellectual exercise. 'Waves' properties not only forewarn what to expect in the next sequence but at times can help determine the market's present location in the progression of waves' from chapter 2, Elliott Wave Principle by Frost and Prechter.

By reading the current social mood and studying stock market charts, we can ascertain where we are in the overall picture. Then we can predict what happens next, not only to social mood but to the markets that represent them. It's a very powerful combination, and fascinating to watch unfold.

It's party time in corporate America still apparently. With AIG receiving more than USD$170 billion in government bailout money, it then gave more than USD$165 million in bonuses to senior executives. The rub for the American public is the bonuses were not just to any senior executives at AIG. This USD$165 million in bonuses was to the Financial Services Division, the very people at AIG whose decisions got the company into this mess in the first place.

One interesting response from AIG was that if they did not give the bonuses to those executives, then they may lose some valuable people. Seriously. Apparently the people who engineered a massive loss that is yet to find a bottom, requiring taxpayers to pour money in to keep the company afloat, are valuable employees. Or are we to believe that the people whose decisions led to AIG's financial mess have all mysteriously left the company and the current team in Financial Services are new guys there to clean up the mess? Really?

Another point of view on the 'valuable employee' slant is that anyone with experience at AIG Financial Services Division on their CV is going to find it tough to land another position. I mean, would you employ them? Even to balance your checkbook?

The good news today is that 15 out of the top 20 bonus recipients have agreed to return their bonuses, all of it. However, the public will be asking, what are the other 5 doing? And what about the other below top 20 recipients? Apparently some of them are refusing to return the money.

When we are in a period of deflation social mood turns sour. The executives at AIG are squarely in the firing line of public opinion, and there's not much they can do to avoid it. This whole scenario is playing out exactly as predicted in The Elliott Wave Theorist, October 2003.

How can Elliott Wave Theorist be so accurate? It relies on social and economic cycles. Currently we are in a downwards cycle, a pessimistic mood. I predict Warren Buffet's reputation will come in for a hammering soon, as the richest man in the world he is subject to being 'vilified' (EW Theorist, October 2003).

If you want to know what else is in store for our future social events, check out Elliott Wave International, they have a wide variety of financial, economic and social commentary and predictions.