One man against inflation
Money manager Van Hoisington says unemployment and debt will make rising prices a non-issue.
NEW YORK (Fortune) -- During a recent speech, money manager Van Hoisington, president of Hoisington Investment Management, asked his audience of sophisticated investors to raise a hand if they thought inflation was going to be a problem sooner or later.
Everyone raised a hand -- except Hoisington.
This "inflationist view of the world," which he outlines in his firm's recent quarterly review and outlook, stems from Milton Friedman's observation that "inflation is always and everywhere a monetary phenomenon." Hoisington goes on to say that "the Fed has expanded the money supply dramatically, and since inflation is too much money chasing too few goods," people think inflation is inevitable. But he thinks they're wrong.
For starters, Hoisington believes the economy will continue to be weak for years. And with unemployment at such high levels, companies won't be raising wages, and consumers won't be increasing their spending. That means demand for commodities and other goods will be muted, so there will be no upward pressure on prices. Overall, he sees the economy being no bigger in 2012 than it is today.
Even if inflation and interest rates were to rise in this recession or the beginning of a recovery, the economy would quickly stall. "With unemployment widespread, wages would seriously lag inflation," he writes. "Thus, real household income would decline and truncate any potential gain in consumer spending."
What about all the money the government is pumping into the system? That's not by itself inflationary, he says, pointing to the work of economist Irving Fisher (who died in 1947).
Fisher believed that gross domestic product is equal to money times its turnover, or velocity, which is basically, the speed with which people spend it. In the last two quarters, money supply has grown at 14% but velocity has declined by about 17%, so nominal (non inflation-adjusted) GDP fell 4.5%.
One reason velocity is down, according to Hoisington, is that people would rather repay debt than go out and buy a lot of new stuff. He points again to Fisher, who wrote in a 1933 article "The Debt-Deflation Theory of Great Depressions" that excessive debt controls all, or nearly all, other economic variables.
Hoisington sees this today. "People are more interested in trying to get out of debt than increasing it, which means the economy cannot grow," he says. "If there's no increase in demand, there can be no increase in prices."
For investors, Hoisington warns in his paper that "Betting on inflation as a portfolio strategy will be as bad a bet in the next decade as it has been over the disinflationary period of the past twenty years."
During that two-decade period, Treasury bonds had a higher total return than common stocks, he notes. And he says investors shouldn't expect this to change: "On a historical basis, U.S. Treasury bonds should maintain its position as the premier asset class as the U.S. economy struggles with declining asset prices, overindebtedness, declining income flows and slow growth."