United States Economy Heading Towards Deflation

In the United States, recent economic news cast an ominous shadow for deflation, general decline in prices. Slow down of economic growth in China and Europe, contributes to the deflation outlook in the U.S.A. and around the world. When consumer demand for goods and services decline retailers, businesses, and manufactures are hard-pressed to raise prices, besides many households have less or no money to spend as result of the current unemployment situation, which may worsen. Also, falling real estate prices adds to the deflation forecast. The Federal Reserve (Central Bank) solution adjust the United States. economy out of deflation requires raising the money supply, not an easy task.

Recent economic news offers evidence of deflation in the United States economy:

1.) Manufacturing -- Prices paid by manufacturers to suppliers fell 20.5 points to 57 from 77.5 - A huge drop within the purchasing manager's index. 2
2.) Housing sales -- Pending home re - sales decreased 30 percent in May 2010, biggest decrease since 2001.
3.) Dismal unemployment reports - Besides fewer number of jobs created, hourly earnings have fallen for the second time in the past six months, falling 0.1 percent in June 2010 or 1.7% higher than a year earlier. 2

Evidence supporting deflation has driven yields on U.S. treasury securities including the 30 year, 10 year and two notes to record lows. 1 Scott Martin, managing director at Astor Asset Management said regarding record low treasury yields: "That's an indicator to me that the smart money, which I consider to be the bond market money, is preparing for the worst. It's not necessarily predicting a double - dip recession but some kind of deflationary spiral. There is no inflation in sight, in fact, deflation is here." 4

Historically gold purchased as a hedge against inflation and sold during deflationary times. Up till now and last year gold has climbed in value as the EURO Dollar depreciated, concern escalation for inflation and political unrest. However, the EURO Dollar maybe showing signs of stability and possible upturn, provided debt countries in Europe manage to overcome their financial situation by curbing their budget spending, and successfully raise capital to pay-off their debt obligations. Besides, protests maybe subsiding in Europe concerning required government budget cuts. On June 17, 2010 - Spanish government managed to raise $4.3 Billion in new debt. Also, the EURO currency could climb-higher if debt rating agencies recognize European countries debt crisis is stabilizing or improving. 3 Gold prices could potential fall a lot more supporting the notion of deflation, if economic news in the United States & Europe continue to decline and European countries manager to further reduce their debt obligations.

The ugly side of deflation, consumers and businesses hold - off making purchases, awaiting further price declines: Strains the U.S. economy out of a recession. "Essentially, all asset classes would be worth less in a deflationary spiral, meaning the stock market would fall sharply, home prices would tumble further and Americans savings would depreciate." 4 Deflation may hurt recipients of Social Security and Medicare: Benefits may be cut reflecting a decrease in Consumer Price Index (CPI) if the trend of prices continue to decline. 5 One or more months drop in Consumer Price Index doesn't necessarily make a new trend, but CPI drop of 0.2 Percent in May 2010, significantly the biggest decrease since December 2008. 8

Deflation is not always bad for consumers. President Obama and U.S. Congress realize Government spending is out of control and curbs must be in place to stop the rising U.S. budget deficit, same concerns prevalent in European Countries. When budget deficits are cut and spending is curtailed, formidable outcome is deflation or decline in prices: As a result stronger U.S. Dollar Currency reduces the cost of imported goods, and savings are passed onto U.S. consumers. Maybe a return to the 1920's, when prices fell nearly one percent per year (deflation) and the U.S. economy soared. 6

Treating the disease of wide-spread deflation requires the Central Bank (Federal Reserve) to increase the money supply, consequentially prompt rise in prices or inflation. "Rising prices provide an essential lubricant for any sustained recovery because increase profits and take some of the depressive pressure off wages and debtors of every kind." 7

References:

1.) Treasury Yield Curve Flattest Since October on Deflation View - http://www.businessweek.com/news/2010-07-01/treasury-yield-curve-flattest-since-october-on-deflation-view.html

2.) Why fears of deflation are growing in the United States - http://www.theglobeandmail.com/report-on-business/top-business-stories/why-fears-of-deflation-are-growing-in-the-united-states/article1626399/?cmpid=rss1

3.) Gold Falls with Dollar But "Way Under-Owned" as Euro LIBOR Rates Rise - http://news.goldseek.com/BullionVault/1277996482.php

4.) A Depressing Thought: Deflation - http://www.foxbusiness.com/story/markets/economy/deflation-scary-albeit-unlikely-proposition/

5.) 2010 Social Security and Medicare Numbers - http://www.hcvadvocate.org/hepatitis/hepC/2010%20Social%20Security%20and%20Medicare%20Numbers.html

6.) Deflation Nation - http://www.newsweek.com/2010/07/02/deflation-nation.html?from=rss

7.) Deflation - http://www.investopedia.com/terms/d/deflation.asp

8.) Treasury Yield Curve Flattest Since October on Deflation View - http://www.businessweek.com/news/2010-07-01/treasury-yield-curve-flattest-since-october-on-deflation-view.html