StagFlation – What is it and what does it mean for you?

To constantly fight inflation, investment options and diversification of your wealth assets have been used as the various options amongst hedging and other forward trading options.

One of the most common question i have been asked in recent times is are we in a inflationary period or are we in a deflationary period? This is a pretty easy question. With most facts and statistics available at the click of a mouse button, one can quite easily pick the facts up and dissect the current situation.

However, beyond these terms and situations, there is a new definition for the current phase that the Western world is “enjoying”. It is called Stagflation and it is not so much so of a new term to me, but again, this has been the buzzword of late with more concern coming from this area.

What is Stagflation?

Before i begin, let me start with the basics. You see, when economies expand and living standards increase, so do costs of living. This is called a period of inflation where the relative value of your money gets less as you can now afford less things with the same dollar you had ten years ago.

On the other side, a state of deflation is when the country has no or negative growth and there is excessive supply of goods and services, the value of money increases against these supply chains. Therefore, your dollar can now buy more goods and services when compared to what it could, say, about 10 years ago.

Stagflation though, is a hybrid situation of both, picking the negative aspects of both situations, unfortunately. It is when you have negative or no growth (Stag from “stagnant”) and rising costs of living/production etc (flation from “inflation”)

How can this be?

In a self sufficient economy, this shan’t really be a problem. However, in an economy where you face little or no growth, but rely heavily on imports for your consumption and basic living needs, much like the US, Japan and to a fair extent, right here in Singapore, your costs go up too. Therefore with no growth internally and rising import costs, you get the squeeze in the middle. With continued lack of growth, relative home currency strength weakens and it only gets worse from that point onwards. I am sure you can see the big picture now.

From an academic point of view, Wikipedia beautifully describes:
“…Stagflation can result when an economy is slowed by an unfavorable supply shock, such as an increase in the price of oil in an oil importing country, which tends to raise prices at the same time that it slows the economy by making production less profitable. This type of stagflation presents a policy dilemma because most actions to assist with fighting inflation worsen economic stagnation and vice versa.

Secondly, both stagnation and inflation can result from inappropriate macroeconomic policies. For example, central banks can cause inflation by permitting excessive growth of the money supply, and the government can cause stagnation by excessive regulation of goods markets and labor markets. Together, these factors can cause stagflation.”

I am not sure how you feel but the last line just hit a nail in my head. Does that sound familiar with what is going on around the world, especially with our Western “big boys” ?

So, who is in trouble?

Firstly, lets look at who is having negative or no growth

GDP of the Various G8 Economies

No surprises there, though i am surprised the US economy has had some positive growth (pun intended!)

Now, lets look at who is bleeding with rising costs

Inflation of the various G8 economies

Goodness me, that should give you a horrible picture of what is going on with the various nations out there. They are all having negative growth and rising costs. The only exception is Japan and to a lesser extent, Switzerland.

What does this mean in terms of the currency pairs that we can look out for and how we can trade them for best “mileage” during these troubled times?

Well, going to give you a bit of thinking time and breather on this one. Catch you more on our bumper post tomorrow. Honestly, this is the true beauty of Forex trading. You can take your pick with your currencies, make your own pairs and milk them for whatever the situation calls for.

Talk to you tomorrow,
Seeni

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