Tuesday, July 6, 2010

Hussman Weekly Market Comment: Implications of a Likely Economic Downturn

A week ago, we accumulated enough evidence to conclude that the U.S. economy is most probably headed into a second leg of recession. It is unclear whether this will be identified as a second recession or a continuation of an existing downturn. In either case, I've repeatedly noted that the apparent strength in the U.S. economy over the past year has been driven almost exclusively by an almost inconceivably large burst of fiscal and monetary "stimulus" last year, whereas intrinsic economic activity has stagnated. Personal income remains at its lows once government transfer payments are excluded, which is in stark contrast to typical post-war recoveries. Weekly jobless claims are pushing again toward 500,000, whereas prior post-war recoveries have seen jobless claims quickly retreat below the 400,000 figure that roughly delineates job growth from continued job losses. The most straightforward explanation of the economic data is that we've observed a stimulus-led recovery that has not translated into private economic activity, and that the effects of the stimulus are now diminishing.

Over the long-term, massive increases in government liabilities do have inflationary impact. This imposes a real burden, not simply a paper one. If the holder of government currency can command a certain stock of real goods and services, and then the government debases that currency so that it can command a lesser stock of real output, then it is undeniable that the difference in real value has been implicitly transferred to the government to finance its spending. While I do expect that TIPS, commodity exposure and precious metals will be important inflation hedges in the years ahead, investors chasing these assets here may have a difficult road. It is best to accumulate such assets when they are in liquidation, not when they are being chased on the basis of overly simplistic theories of inflation.