The Immaculate Disinflation

It certainly would be a miracle. In fact, deflation seems likely.

An interesting phrase has entered the lexicon over the last few weeks. The “Immaculate Disinflation” is being used by many to describe the fact that consumer price inflation is slowing down (disinflating) but the economy is remaining buoyant, particularly the labor market. Economists and analysts adhering to this view have alluded to the historical tendency for periods of disinflation to coincide with recession and rising unemployment. With that not occurring now, sentiment is quite optimistic. Well, let’s check the history.

The chart below shows the annualized rate of change in U.S. consumer prices going back to the late 1940s, with the shaded areas representing economic recessions. Just by eyeballing the chart we can see that periods of disinflation do not automatically relate to recessions, the 1990s being a prime example. What stands out though is that it is periods of elevated consumer price inflation which appear to coincide with recessions. Whether or not the subsequent disinflation starts before, during or after the recession, is a moot point. The recessions starting in 1957, 1969, 1973, 1980, 1990, 2001, and 2007 all started around the time that consumer price inflation was peaking after having been elevated relative to recent history. The recessions starting in 1948 and 1981 coincided with the period of disinflation which came after the elevated period of consumer price inflation. The exception to this rule-of-thumb was 1950 to 1953 when a spike in consumer prices was followed by disinflation, with no recession appearing until the disinflation had lasted for two years.

So, what are we to make of this newfound biblical reference appearing in financial markets? The optimism it emotes would appear to be wholly consistent with a bear market rally in stocks, when people start to think that, perhaps, things are not as bad as they seem. If that is true, best to batten down the hatches and prepare for very rainy weather.