Expert Commentary

Financial Belts Tighten Another Notch: Deflationary Gravity is Grabbing Hold

Norway Wealth Fund


An unprecedented withdrawal from the world's largest sovereign wealth fund demonstrates the strength with which deflationary gravity is grabbing hold. In the months ahead, Norwegian officials will extract 382 billion Kroner ($37 billion) from the country's Government Pension Fund Global--more than four times the previous record--to combat the combined fallout of Covid-19 and collapsing oil prices. More important, the withdrawal will exceed the cash flow generated by dividends and interest for the first time in the fund's 30-year history. As Bloomberg put it, Norway finds itself in a "crisis that lacks historical parallels," and plugging the budget gap requires a "historic asset sale to generate cash." (5/12/20).

However, the very process whereby institutions sell assets to generate emergency cash is precisely the kind of deflationary spiral we have long warned about. Ultimately, as price declines accelerate, more sales will be required, which will send prices spiraling down further. For now, fund managers will primarily sell bonds, but as cash flows from Norway's petroleum industry hit a 20-year low, stock positions will almost certainly hit the auction block, too.

For what it's worth, Norway actually sits in an enviable position compared to its oil-exporting neighbors. Just seven months ago, the value of Norway's sovereign wealth fund crossed the $1 trillion mark, making it three times the size of the nation's annual GDP. Russia, on the other hand, is likewise tapping its oil fund but faces a more pressing problem. Its national reserve fund sits at just $165 billion, and oil prices need to stay above $42 per barrel in order to balance Russia's budget. At current prices near $34, officials have been depleting the fund by as much as $300 million per day. According to Russia's finance minister, the fund could run dry in as little as two years.

And that's assuming that the situation stabilizes...