Are we in a long-term inflationary environment?

August 4th, 2008

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In our previous article, Is the world already in recession?, we quoted Marc Faber that showed that he believes price rises is in for the long run due to the expected colossal increase in demand from China and India.

Now, you have to understand that Marc Faber is a very long term thinker because he is a student of history. When he talks about the long term, it is in terms of decades, not years. This does not mean that deflation will not occur in the meantime. For the sake of argument, let us assume that this will happen (i.e. if China/India falls into anarchy/chaos/revolution/etc, then this will not happen). This means that in the long run, there will be 3 billion more people in India and China joining the global economy. As we said before in Example of a secular trend- commodities and the upcoming rise of a potential superpower,

It has been said that today?s 21st century will see the secular rise of China. During the 20th century, China endured non-stop revolutions, civil wars, invasions, social upheavals, ideological experiments (e.g. Cultural Revolution, Great Leap Forward). It was the last couple of decades of the 20th century that China began to slowly emerge from her self-imposed shackles to catch up with the West. Napoleon once said that China is a sleeping giant that will shake the world when awaken. Today, despite the breakneck growth of the Chinese economy, China still have a lot of catching up to do in order to attain the same level of affluence, standard of living as the West- there are still hundreds of millions of peasants in China that is still relatively poor by Western standards.

Furthermore, as we said before in The Problem that can throw us back into the age of horse-drawn carriages,

China is growing rapidly in a massive scale. Such massive growth requires massive amount of metals for building skyscrapers and infrastructure. Mining and producing all these metals requires copious amount of electricity. Copious amount of electricity requires copious amount of energy. The recent snowstorms in China shows that the entire nation has a very narrow margin of energy supply before serious disruptions occur. If China is to grow further, its current supply of energy is inadequate. China has abundant coal (it used to export coal). But today, there is not even enough for her energy needs. By now, you should be able to appreciate what is involved (in terms of energy usage) to keep China in its trajectory of growth. And we have not included India into the picture.

To give you an idea of how much commodities and energy consumption will occur in the future, consider this: the amount of diesel Australia used in a year is in order of how much China use in a day! This is before China becomes a fully developed nation. And we have not yet include India into the picture.

This means that in the absence of a revolutionary technological break-through, the earth simply does not simply have enough natural resources to support India, China and the Western world based on the current standard of living of the developed Western nations! The implication is extremely unpalatable: some nations will have to rise at the expense of the others, which may result in armed conflicts (touch wood, heaven forbid!). There implies a shortage of resources, which means there will be immense pressure on commodity prices, notwithstanding the effects of monetary deflation in the coming years.

In such an environment, if central bankers around the world (not just the Federal Reserve) resort to the monetary printing press to pay for the looming shortage or fight deflation, the hyperinflation finale will be hastened prematurely.

In view of this, if we have to choose between investing in resource or financial stocks, we will be more inclined towards the former.

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