Deflation returns to the major economies as stimulus fails, again

Deflation Oct15aNext week, I will publish my annual Budget Outlook, covering the 2016-2018 period.    The aim, as always, is to challenge conventional wisdom when this seems to be heading in the wrong direction:

Please click here if you would like to download a free copy of all the Budget Outlooks.

Before publishing the new Outlook each year, I always like to review my previous forecast.  Past performance may not be a perfect guide to the future, but it is the best we have.

Last year’s Outlook returned to the Scenario approach, given the potential for further policymaker stimulus.  This provides a short-term ‘sugar-high’ for financial markets, which feast on the supply of free cash to push prices higher. There was indeed more stimulus from the Bank of Japan in November and from the European Central Bank in March.

Neither effort has worked however.  And thus the Outlook’s main Scenario has indeed come true.  All major developed country economies are now back in deflation, as the chart above confirms.  As I wrote last year:

“The most likely Scenario focuses on the Great Unwinding of policymaker stimulus now underway.  This is taking us into the final stages of the Cycle of Deflation, which has been building since the ‘dot-com bubble’ burst in 2000.

“The key feature of this Scenario is that the world is now becoming demand-constrained.  In the past, advantaged-cost supply was key to success.  “If you build it, they will come” was the motto.

“But today, it is becoming widely recognised that we have a supply glut in most key areas – certainly in energy and commodity markets, and also further down most value chains….

“Of course, deflation wouldn’t be a major issue today if markets had been allowed to operate normally after 2000.  Most Western countries had moved into budget surplus, and were not burdened with today’s debt levels.

“But we are where we are.”

My weekly round-up of Benchmark prices since the Great Unwinding began is below, with ICIS pricing comments: 
Brent crude oil, down 52%
Naphtha Europe, down 49%. “Petrochemical demand is starting to soften and this might continue throughout Q4, especially if the price spread between naphtha and propane continues to be as wide as today”
Benzene Europe, down 59%. “European benzene spot values continued to move in tandem with crude oil fluctuations as well as developments in the US Gulf market this week”
PTA China, down 41%. “Major producers do not expect major increases in demand for PTA cargoes in the near term owing to the bearish outlook for downstream polyester”
HDPE US export, down 35%. “Domestic export prices edged up for most grades this week because Texas warehouses are full of material going offshore”
¥:$, down 17%
S&P 500 stock market index, up 4%

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