Governments' Economic Stimulus and Inflation

Last Friday, the Labor Department reported a 0.7% drop in their consumer price index during December. The index fell at a record amount during November making the inflation in this period the lowest it has been since 1954.  It is amazing that this is happening despite governments all over the world expending economic stimulus to help their sagging economies.  The Federal Reserve's report of M1 (i.e., the quantity of "cash") increased a staggering 17% between January and December 2008. By December 1st, the Federal Government had already spent $3.5 trillion of $8.5 trillion in loans and bailouts. 

This money has to come from somewhere! There are only three sources: increased taxes, more sales of government bonds, or simply printing more cash. Given the enourmity of the debt, it would be politically impossible to raise taxes.  Based on the gain of M1 it seems like more printing of cash is at least part of the answer. 

Another suggestion of future inflation comes from the commodities markets. Of 24 commodities that I track, at least 14 of them have been making "bases" preparatory to bullish moves for the last couple of months. It is too early to predict with any certainty that these commodities will go up and the U.S. Dollar Index sink to new lows, but it could be that the markets are warning us about these dangers.

Improvement in Business Construction Activity

Today, the Commerce Department reported a 0.6% fall in November's construction spending. This was better then the 1.3% drop that analysts had expected. A surprising 0.7% rise in non-residential building activity partially offset a 4.2% loss in housing construction. If business are increasingly building to expand, then the economy must not be as bad as is generally thought.

The real-estate stock market sector has gone up 28% faster than the S&P 500 since turning things around in early December. Stock market sectors frequently change direction before the effects are seen in the economy. For example, the banking sector of the market had gone up compared to the S&P 500 during January 2008 but then started a bearish trend that lasted until the middle of July. This bearish trend starting in late January happened one and one-half months before the March 17th news of the financial crisis that was launched with Bear Stearns.