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The Bureau of Labor Statistics has calculated that health care inflation in the last ten years or so averaged about 4% per annum. However, from private studies we know that health care costs have risen by around 10% per annum in the last few years. Moreover, whereas the weighting of the BLS's health care expenditures within the CPI is only 6%, health care represents about 17% of consumption, and this, so Bill King points out, according to the Bureau of Economic Analysis of the US Commerce Department.
I think there is no better example to expose the US government's continuous lies about the health of the economy. By understating the rate of CPI inflation the bond market is being fooled and real GDP growth rates artificially boosted since real GDP is nominal GDP less the rate of inflation. So, if nominal GDP increases by 6% and inflation instead of averaging 3% per annum is in fact more likely to average 5% per annum, real GDP growth is not 3% but 1% per year!
As a side, I may add that I have always been skeptical about buying inflation adjusted bonds (TIPS), simply because the yield on inflation adjusted fixed income securities is pegged to the CPI. Since the government will always understate the true rate of inflation the buyer of the TIPS will eternally be shorthanded. Moreover, I think that one day in future, the bond market will finally wake up to the fact that inflation has been understated and sell-off very badly.
In fact, you would have to be the world's greatest optimist (a la Abby Cohen or Larry Kudlow) to buy a US 30-years government bond in US dollars and with a yield of just 4.5% with the view to hold these bonds to maturity. You would have to assume that US inflation will never rise above 4.5% within the next 30 years and that the US dollar's purchasing power will be maintained. Not a likely scenario, in my opinion (short term, however, bonds could rally somewhat more as the economy weakens).
But there is another reason why I started out by talking about markets moving ahead of news. Recently a board member of one of the asset allocation funds, for which I am also an advisor, wanted to double the equity allocation of the said fund based on an economic study he circulated (naturally produced by a self serving investment bank), which showed that the global economy was strengthening and that profit growth would remain strong.
Rising economy is old news
Now, I am not necessarily arguing here that the study is wrong. Who knows? But, a strengthening global economy may be 'old news' as far as the US stock market is concerned and not lead to rising stock prices. The market may have already discounted this good news through its rise since April.
Moreover, if I look at the recent performance of important stocks in terms of their market capitalization, such as Wal-Mart, GE, IBM, Citigroup, Dell, and financial stocks in general, which are all weak, the stock market seems to say the opposite from what the bullish economic study is suggesting.
And quite frankly, if I have to make a choice between who to trust more - the market action or the forecasts by strategists, economists and analysts, I take the market's forecasting ability any time. I should also like to add that recent weakness in sub-prime lenders and homebuilders does hardly suggest that the credit driven economy will strengthen in the next six months. Corporate profits are, therefore, likely to disappoint.
A last point: Given the devastation in the Gulf of Mexico, the 'always easy' and disastrously interventionist Fed is likely to stop raising interest rates soon. This will be reflected in the US dollar resuming its downtrend and gold rising further.
Dr Marc Faber
