What is a deflationary crash?
Now that the dust has settled a bit on this week’s blitz of news flow, market drama and media noise, let’s get out our macroscopes and zoom out for some context.
This market action has less to do with tariffs than media coverage would suggest.
It goes back at least to 2008. The financial crisis kicked off an era of unprecedented central bank activism. The Federal Reserve slashed its policy rate to zero and began aggressively buying assets with freshly minted currency. Once the crisis was over, however, it didn’t stop. It held rates near zero for most of the next decade, and whenever stock prices threatened to fall, intervened by buying more aggressively.
Then following an attempt to normalize in 2018, it gave up when stocks fell about 20%. The yield curve inverted and univerted in 2019, presaging a bear market and recession in 2020. By the time it began to develop however, the Covid sensation and associated government interventions eclipsed memory of the financial developments that led up to it. The ensuing deflationary crash prompted the most aggressive central bank interventions yet, with the Federal Reserve again slashing rates to zero, promising to keep them there for years, and printing dollars by the trillions.
When these inflationary activities finally spilled over into broad increases in consumer prices, the Fed responded with an aggressive tightening, but once stock prices had fallen around 20%, once again caved to Wall Street demands and prematurely abandoned its tightening program.
The sum of these repeated interventions reinforced the storied “Fed put”, and the pervasive market perception that no matter how high stock prices went, investors could confidently buy knowing that the Fed had their backs. By late 2024, US stocks had reached valuation levels higher than in 1929 and 1999. Even at superbubble prices, investors were so certain that stocks could only go up against currencies, that shorting currency against stocks seemed like a no lose proposition.
This means borrowing currency to buy stocks, both indirectly and directly. From individuals with Robin Hood accounts and stock options to institutions like hedge funds and investment banks the game grew.
Once again, this occurred after a yield curve inversion and uninversion, this time one of the longest and deepest on record. A recession and bear market were in the cards. Media declared a bear market yesterday, but Financology went on Bear Market Watch over three months ago and issued a Bear Market Warning nearly one month ago. Even Synthetic Systems, which knows nothing about tariffs or politics, anticipated a 2025Q1 stock market decline as long ago as the beginning of 2024. None of this would have been possible if the true cause arrived just Wednesday afternoon. The amnesiac financial media doesn’t even acknowledge the conditions in place prior to this week and the history that led to it, let alone analyze it.
But this explains this week’s extreme market action. Tariffs merely served as a catalyst, like a spark to a pile of dry tinder. But it’s the tinder, not the spark, that is the source of instability. Without the tinder, a spark poses little danger, no more than a pin is a threat to an uninflated balloon.
This doesn’t mean the tariffs are a minor development; even their originators and supporters acknowledge they will be disruptive. But it does mean the size and breadth of market response was far more than tariffs and that the media reporting on it is grossly inadequate and misleading. A deflationary surge in currency does explain why unrelated assets like gold and copper fell in price.
The financial system had built up a massive short position in currency. The surge in its value is a result of a classic rush to cover. This global short squeeze caused the value of dollars and other currencies to surge, not only torpedoing the prices of stocks but of commodities like oil, copper, gold, etc.
Traders are familiar with the surge in a stock in response to a short squeeze, but not when it happens to currency. The certainty that central banks create by persistent inflation invites the buildup of short positions. Their goal of a nice smooth, even rate of currency depreciation is a fantasy only possible in a world without financial markets or human beings.
When inflation begins to unravel, traders sell not only what they want, but what they can, to acquire the currency to satisfy their borrowings. This demand drives up the value of the currency even further, prompting more falling prices and more currency short covering.
This is what I refer to as a deflationary crash.
So what next? In light of the exaggerated move and the overbought position of currency and oversold position of stocks and commodities, the dry tinder is there for a countermove as early as next week. It could seemingly happen on its own, but like this week’s action is likely to be associated with some kind of news catalyst. It could be tariff related, or a central bank headline. There could be more follow through in last week’s direction first. We’ll see…
Mega’s dispatch from England:- The land of confusion.
You know………….when something happens i like to give it 24 hours to gel, walk the dog think it though, sleep on it……& then i know what is going on & its effects. Might not be 100% right but i got a course to steer by.
…………Not in this case.
Everyone & i mean everyone has come up with conspiracy theory that would make Alex Jones breathless. I thought i was bright ish, not super smart but better than most…….Trump has left me clueless by this.
I need more time, like Chris Rock after the “close encounter” with Wil Smith @ the Oscars, i need to process it…………………..meantime.
I got a call from someone i used to work with, seems that “Project Ukraine” is still rabbling on. I thought it was pretty much in the shitter, like a road kill disappearing into the rear view mirror on a dark could night……….but no.
A large number of Nato (British/French) command officers, very high ranking where having dinner with their Ukraine opposite numbers. They booked the finest restaurant in a city some distance from the front. Out of range of most missiles & any flights detected would have had the meeting moved.
They were perfectly safe, or so they thought.
Russian intel sussed them out & a Russian Stealth drone (he thinks) dropped a guide bomb.
Direct hit just as they were getting main course. What’s left of them is being scrapped up now & the restaurant is now a smoking crater.
Oh well
hmmmmm………………he may have a point.
However i think America will ensure that the $ is the only show in town.
https://www.youtube.com/watch?v=fQNS8H90Lt0
Yes he has a point, but like most media analysts has a huge blind spot too. America has been undermining its “exorbitant privilege” for years, at least since the turn of the century. Debasing your currency doesn’t exactly make it more attractive to the world. And weaponizing it for sanctions gives the world a positive incentive to find alternatives.
This explains the ascent of gold. It has no issuer, is apolitical, and undebasable. And anyone with a memory deeper than Ground Hog Day knows this ascent didn’t begin with the election of Donald Trump.
King Dollar isn’t about to abdicate any time soon. But it is fading. The surest way to lose any privilege is to abuse it.
The Useable suspects
Protests in all 50 states
Demonstrations are taking place in all of America’s 50 states, as well as in Canada and Mexico.
Thousands gathered in Asheville’s Pack Square in North Carolina, with placards reading “Save Democracy” and “Overthrow the oligarchs.”
Just so there’s no misunderstanding, my criticism of the media’s tariff-obsessed narrative on this week’s market declines doesn’t mean I support the tariffs. I do support the global 10%, but not the targeted or punitive extras like the 25% on Canada and Mexico for fentanyl, the extra 25% on autos, etcetera, and certainly not vilification of other countries for problems Made in the USA. It just means the media coverage is awful.
https://financology.net/2025/04/02/todays-tariff-announcement/#comment-4710
https://financology.net/2025/04/02/todays-tariff-announcement/#comment-4711
https://financology.net/2025/04/02/todays-tariff-announcement/#comment-4712
Is gold going mainstream?
Nestled among sitcoms, I just saw an ad on commercial television reviewing the losses in the dollar over the decades and how to protect one’s savings with gold. Household cleaning products, cosmetics, prescription drugs, car insurance, soft drinks … gold.
If this is a sign gold is catching the eye of more than gold bugs and central banks, this bull market could have quite a ways to go.
What are your thoughts on other nations following Trump & imposing import taxes..?
Mike
It’s their prerogative. I look at import and export taxes mostly as a means of raising revenue, not pushing other countries around or micromanaging trade. It’s hard to imagine any more legitimate and fundamental concern of a government than its own border. As opposed to meddling in its citizens’ private business and other countries’ internal affairs, governing who and what crosses its border practically defines the essence of a sovereign.
So if it were up to me (maybe a good thing it’s not;-), the federal government would be financed entirely through import and export taxes, corporate taxes, sales taxes and service fees. The personal income tax (an invasion of individual privacy) could be completely eliminated.
My beef with the free trade contingent is its hypocrisy. They get vexed over taxing trade with somebody in another country but have no problem with taxing trade with the guy across the street. That’s what the income tax does, doesn’t it?
Bear in mind that I’m not really a geopolitics guy; economics is my beat. So while I wouldn’t do tariffs that way, I didn’t get elected president either;-)
Your thoughts?
i think in time Tax trade will work well in time for the USA. Not sure it will else where, be interesting to see if anyone does follow Trump.
As for Trump, well if it does not work there is always the option of updating the gold value held by the FED to todays price…….. adding another 800 billion to the balance sheet.
Mike
I’m just not in a hurry to rush to judgment. There’s probably more to this than meets the eye.
Just for example, what if Team Trump deliberately crashed the stock market? TSec Bessent already has said they want to get interest rates down. Well they came down last week. This cuts into the federal debt expense. It may prompt the Fed to cut its rates too. Besides, US stock prices were too high – bubble territory – in which case lower is better. Lower is just as good for buyers as higher is for sellers.
They also wanted to get inflation down. And we just saw a giant step in that direction. The dollar’s purchasing power gains in the asset markets go into the pipeline to the goods and services markets.
What Volcker and Reagan did in the early eighties was also extraordinarily unpopular at the time, but laid the foundation for two decades of prosperity.
Plus more than likely these tariffs were the opening gambit in negotiations that will lead to lower tariffs.
Not having an inside track into Trump’s mind, I don’t know of this … and there are definitely parts of it I don’t like … I’m just saying that the media taking just what we’ve seen so far at face value and declaring economic armageddon is not only establishment self serving but also way premature.
This is an establishment that has been trying to neutralize Trump ever since he appeared on the political horizon. It’s been controlling policy for decades, but it can’t control Trump. The media it does control can’t be counted on to be objective.
This is actually looking plausible in light of Trump comments at a news conference in progress. He specifically cited falling interest rates and federal debt costs and claimed credit for it.
Makes ya wanna go hmmm…
https://www.telegraph.co.uk/business/2025/04/06/military-chiefs-200m-state-owned-semiconductor-factory/
https://x.com/Megatron_ron/status/1908883752148774980?ref_src=twsrc%5Egoogle%7Ctwcamp%5Eserp%7Ctwgr%5Etweet
Beatles News
https://www.youtube.com/watch?v=2zjrqbJyUOs
Mega’s Dispatch from England- Car Wars
Ok, so i had a chance to do some processing of the last few days news. Up shot is our beloved PM is to make a major news con-fence tomorrow were he will publicly state that Globalisation is OVER.
I done some deep thinking but i think we are now going to return to a world were balance of payments is king. I recall from my childhood one British PM lost a election because BOAC Later British airways bought a load of 747s & it upset the balance of payment figs.
We are going to have to see how this pans out but Trump has gone down the Volker path at full speed. Worst still he is said to be very keen on WAR with Iran, if that kicks off it will be worst tan the 1970’s!
Is that the idea, collapse all the debts?….wipe the slates clean?
So, in practcal terms what can we expect?
Well, lets look at Cars…………
Yes exports will get hit, but most are high end cars, McLaens Aston Martin, Roll Royce, Bentley…..the Odd Lotus. ..but what counts is Landrover (Range Rover) & Mini.
Mini sells 35,000 cars in US every year, they just got 25% more expensive.
Yikes!
The effect is all nations will look at how to help their own motor producers. Those whom have factory or more in Blighty are now likely to find the British government is going to become “Helpful”.
Now the British have a problem, they need EVs not ICE. Britain to its credit has invested into wind power in a big way. The problem is the wind can be some what unhelpful about when its good enough to blow, thus we need EV’s & a lot of them.
Giving Tax breaks to Elon is now over here in Blighty as it is elsewhere. Landrover is still some distance off with its EV range & dont even ask about Poor Jag. Yes we can shift the goal posts on C02, but what we need is a main stream car producer to make in this nation cheap useable EV……………….& we might just have one………….Nissan.
Yes Mini make EVs but they made in China, so no go….in fact i think China is very soon going to get told to piss off from UK market. We will be be flooded by cheap BYD’s etc.
If the goverment said to hell to being fair & focused on giving Nissan a MASSIVE order for the new Leaf we could get the price down, then they filter onto the 2nd hand car market.
So, what do we know about the New Leaf?
https://www.youtube.com/watch?v=oXD3HCfsXgI
Its built on the same platform as the Renault 5 ev.
The fast one has an IRS (independent rear suspension) but cooking versions have a torsen bar rear end. Renault got the weight down to a stunning 1375 kgs, that’s a major win as Evs normally weight at lest half a ton more that their ICE version.
40kw/h battery or 55 it rides on 195×18″ & comes in 2 versions…..a 150 bhp or 120 bhp. The lighter low power version has simple drum brakes on the rear axle.
If i was Nissan i go with 3 versions
105 bhp
125 bhp
150 bhp
Thanks … I appreciate your Mega’s Dispatches from England.
Sundays are usually a day off from the world for me, but the world has been a bit more interesting than usual of late. Nikkei futures were down over 7% this evening, with S&P futures down 3%-4%. Gold futures opened down sharply but quickly rebounded. Treasuries are continuing their rally from last week. No point in citing exact figures because whatever they are when I hit Post they will shortly be different.
Far as stocks go, I don’t know where the bottom is, but have been buying on declines, having put one of my accounts entirely in cash and TBills a couple weeks ago. The rationale isn’t particularly sophisticated. Market history has pretty consistently shown that it’s been rewarding to buy when prices fall fast. Slow declines are sustainable, fast ones not so much.
Of course we don’t how far they will fall, so pace matters. You don’t want to burn up all your dry powder too soon. Some crude arithmetic says VT reaches trailing yield of 3% at about $75. That’s another 30% down from here, and my target for when I would reach fully invested. For those unfamiliar with it, VT represents the virtually the entire world stock market in one ticker and serves as a proxy for stocks as an asset class. It’s particularly useful for adjusting stock exposure without having to trade multiple positions.
Yes, stock yields rise when prices fall, just like bonds, though the financial media sometimes leave the impression yield is only relevant for bonds.
Times like these also highlight the merits of diversification. I have not been very keen on bonds for the past couple of years but owned some anyway. Along with gold, they have provided solid ballast to sinking stocks and undoubtedly helped keep many a portfolio afloat these past few days.
The short term is crap shoot. Tomorrow could be a Black Monday. Or stocks might sell off out of the open, then bounce like a Superball. But technically the market is stretched to the downside, skewing the risk-reward balance in favor of a rally at almost any time. That wouldn’t mean the bear market is over, but some of the sharpest rallies do occur in bear markets.
These declines are fast. But let’s put them in perspective. Stocks are selling at about the same prices they did a year ago, and the world didn’t end then. That these prices are raising such hue and cry says less about stocks than how conditioned investors have become to unidirectional gains as the bubble has inflated. Such gains are the exception in market history, not the rule.
OK, its just after 9 in the morning……stocks down 5%, so they lost 13% here over the last few days. Gold down a bit @ 3127, silver up a bit!
Mike
https://x.com/Megatron_ron/status/1909075837938249791?ref_src=twsrc%5Egoogle%7Ctwcamp%5Eserp%7Ctwgr%5Etweet
https://x.com/Megatron_ron/status/1909138402223522101?ref_src=twsrc%5Egoogle%7Ctwcamp%5Eserp%7Ctwgr%5Etweet
Europe has joined the show.
Massive stock market crash:
🇮🇹 Italy: -8.4%
🇸🇪 Sweden: -7%
🇨🇭 Switzerland: -7%
🇩🇪 Germany: -6.8%
🇪🇸 Spain: -6.4%
🇳🇱 Netherlands: -6.2%
🇫🇷 France: -6.1%
🇬🇧 UK: -5.2%
🇷🇺 Russia: -3.8%
Ok, just after dinner & we have our Market down 4.5% but Gold is up at $3140 & Silver is flying!
Mike
A new phrase has entered the media vocabulary: Trump Tariff Market Collapse. It’s like Putin’s War in Ukraine. It’s an accusation and negative association wrapped up in a memorable sound bite. Whether Putin caused the war or Trump caused the collapse is not up for debate. Repetition will suffice to make it true.
The market collapse is in our bailiwick. It is about far more than Trump or tariffs, as this post explains. In addition, if it were, why then have things having nothing to with tariffs collapsed, like bitcoin? Don’t expect explanation from the media when declaration will do.
Markets have been incredibly volatile this morning, first falling 3% or 4%, then recovering all losses and being up 1% or 2%, and now they’re down again.
Not surprising at all. What is a bit more surprising is that practically all assets are down. U.S. equities are down, gold is down, and U.S. Treasury bonds are down. Silver is up about 1% for the time being.
It’s the Treasury bonds that really surprise me in a sense (TLT down about 2%). I’ve been waiting for a stock market correction to offer me an opportunity to sell the small amount of USTs I have left. At the moment, I don’t know if that opportunity will ever arise. I suspect that I have a lot of company when it comes to hating USTs and the pathetically low interest rates offered in a high inflation environment.
After the past 16 years, I essentially reject the possibility of a deflationary spiral which would be the only good reason to hold a lot of USTs.
When everything looks like it’s moving in the same direction, check your units. Only by assuming currency itself doesn’t move can you use it to measure other assets and draw conclusions about what everything else did. Finance isn’t like classical mechanics, where you have solid, invariant units like meters and kilograms. We only have a variety of assets that each have their own movements, and habitually choose currencies like a dollar for units of market value. A dollar always being a dollar, it creates an illusion of being a thing of unchanging value. Its movements are only apparent in the prices of other things we use it to price.
Let’s distinguish between a deflationary crash and a deflationary spiral. The latter implies an ongoing, self-reinforcing process. The former is simply a description of what has happened. While it is possible for a deflationary crash – a surge in the value of the currency – to mature into a deflationary spiral, more often than not the central bank intervenes to push the currency back down by making it cheaper to borrow or flooding the system with it.
That reverses the deflation. Should the currency remain elevated in the asset markets however, the deflation evident in asset prices will gradually become evident as disinflation in consumer prices, possibly even deflation. We saw this actually happen in 2008, where month over month CPI actually went negative before the Fed intervened and hammered dollars back down, resulting in resurgent asset prices.
My expectation is that if this currency surge doesn’t soon abate on its own, the Fed will once again intervene. This would send the currency lower, asset prices higher, and abort any deflationary spiral. The bond market is already on the case, having slashed rates and rallied prices over the past several weeks. Whether and how much more may be ahead is a separate question.
The mechanics of this are explained in more depth in The Claw Machine.
GOLD GETTING KILLED!
Aye!
Mind you Tesla are down 44% since the start of the year..
https://www.telegraph.co.uk/business/2025/04/07/british-steel-edges-closer-to-nationalisation-as-china-talk/
Mike
https://www.carscoops.com/2025/04/honda-0-suv-shows-its-production-ready-design/
Normally i have no time for SUV’s…….indeed i often said that Satin would go skating to work before i buy one. However i must confess to find this one interesting
Plunging gold prices confirm that a deflationary event is occurring. As the currency rises in value, it takes less of it to buy the same stuff.
Stock prices muddy the waters a bit though. As they stabilize today, it reduces the risk the Fed will unleash the monetary bazookas, and therefore the need for gold as a hedge. We’re also seeing a pause in rate cutting by the bond market. These are tentative indications this deflationary spike in the market value of currency is either at least transiently exhausting itself or is about to be squashed by the Fed.
For its part, the Fed continues to signal that it’s not ready to cut rates, citing ongoing inflation. Oddly, that seemed to be no problem last fall. But more to the point, it reflects its fixation on lagging indicators. Stocks, bonds, commodities and currencies all trade in real time markets and respond instantly to changes in supply and demand. Consumer prices and wages don’t.
As I’ve been saying since the days of iTulip, inflation affects asset prices first, consumer prices later. Inflation, at least for the moment, just ground to a screeching halt.
Mega’s dispatch from England:- The Tide turns?
All of a sudden the mask has slipped, its now all about “Energy security” & even Balance of payments have been is now being mentioned. In other words it was NEVER about Net Zero.
We are now also hearing little snippets about “Unchecked” immigration.
What we should also be discussing is “Motormophus”…or how to get all that unwashed lower than vermin out of their 10/15/20 year old BMWs & into a nice low power EV.
As many of you know i run a large number of powerful cars over the years.
I recall with delight 30 years ago i was running a Ford Fiesta 1800, a 1.8 litre 16 twin cam with….a massive 130 bhp! Small light hatchback weighting in about a ton, thus around 130 bhp a ton.
Back then all used cars were ex sales reps fleet cars & the main player was Vauxhall (GM). The car in question was the Vectra. Bigger, heavy & grossly underpowered (85-90 bhp) with unhelpfully high gear ratios. GM cut every cost thus drum brakes on the rear, small disks at the front & because GM found it didn’t ride they fitted high profile tyres.
“Puts the fun back into driving” GM said………………Mega couldn’t agree more!
I recall one plant pot threw it into a curve trying to match my RS 1800 pace. My Sticky low profile Michelin tyres digging in & spitting me round without a hint of understeer, as he went wide & ………………….er….oh dear.
Sadly all good things come to end & with the coming of Globally WWW world sales reps were history. Thus people were able to select their own cars & with trade barriers coming down it was not long before those German dogs were at it.
GM suddenly found it was trying to cross swords with some Panzer wagon that only now cost a bit more. Which would you have on the driveway, a GM clown car or a MERC/Audi/BMW?
It was not long before this spawn of the devil was finding its way onto 2nd hand car lots up & down the nation & thus the unwashed started to find them up their driveways.
It was not too long before a had to trade up to hotter stuff, but i found myself arms race. This was all compounded by the bastards getting GIVEN them by the government via “Motability”. A Government run Griff were Mega’s money was used to give the down & out FREE BMWs……i kid you not!!!
It all came to head one night, a will not bore you with the details but i sat at home that night & made a decision. I decided that the answer was not me going quicker, it was them going slower. Some how, some day the natural order would be returned.
I didn’t by a Hypersonic new car, i invested elsewhere & i began my journey on such forums as “Itulip” & talking to guys like you. I leant much & awaited my time…….has it now come?
Oh My
https://x.com/Megatron_ron/status/1909319330400960534?ref_src=twsrc%5Egoogle%7Ctwcamp%5Eserp%7Ctwgr%5Etweet
Gold, copper, crude, stock and bond futures are all trading higher this evening. As far as I know, there is no new news from the Trump administration or the Fed, suggesting it is a reaction to oversold conditions, or invoking Occam’s Razor, overbought currency. It’s too soon to speculate whether it’s a durable reversal, but if it holds up even for a day or two, validates trader dip-buying. The fundamentals for stocks, at least valuations, remain bearish and the broader implications of the yield curve history remain irrespective of the daily news flow.
https://financology.net/2025/04/05/deflationary-crash/#comment-4750
https://www.kitco.com/news/off-the-wire/2025-04-07/tariff-whipped-wall-street-wonders-will-trump-blink
“The huge market falls – not seen since the beginning of the COVID-19 pandemic in 2020 – even caused speculation online that Trump was intentionally “crashing” the market to force the U.S. Federal Reserve to lower interest rates while making stocks more affordable to middle-class investors.”
The market has already cut rates, so the tacit assumption that Fed action is central is unwarranted. But taking some of the hot air out of stock prices certainly benefits buyers, a point usually overlooked in market coverage.
A Tale of Two Crashes
Ok, its just after 9am here in blighty & things are ok.
Gold back pass $3000, stocks recovering…