Bank of England's Mervyn King (left) warns over inflation ... Bank of England Governor Mervyn King has warned that high inflation will continue to erode earnings power through next year as the economy faces the threat of 'stagflation'. Prices rises have consistently defied the Bank's expectations of a slowdown, adding to pressure on households as wage growth remains weak and the Government introduces a strict austerity package. The Bank's rate-setters are charged with keeping inflation at 2% but the Consumer Prices Index benchmark has been above 3% throughout the year. However, addressing a committee of MPs, Mr. King suggested that they will be reluctant to try to curb the problem by raising borrowing costs from 0.5 per cent any time soon because of the weakness of the economy. "There will come a point when we will certainly need to ease off the accelerator and return Bank Rate to more normal levels," Mr. King told MPs today. "I look forward to that time because it will probably be a signal that there is a smoother drive ahead, with the economic outlook improving in a durable way. But I fear there is some considerable distance to travel before we can begin to use the word 'normal.'" – UK Telegraph

Dominant Social Theme: Stagflation is part of a normal recovery.

Free-Market Analysis: Bet you didn't know that Britain was suffering from high inflation. We didn't anyway and we try to keep on top of these things. We knew that Britain was suffering from a high jobless rate. And we knew that Britain's debts were out of control, causing the country's new prime minister David Cameron to insist that years of austerity were going to be needed to put things aright. But now, apparently, Britain has high inflation to contend with as well. And its not just Britain. Here's something recent from the Daily Mail on Europe generally:

India looking to the rain gods ... Despite growth in the services and manufacturing sector, the Indian economy is heavily reliant on the monsoon. Last year poor rainfall drove up food prices, which quickly moved into other sectors as well. The country's headline inflation rate, which was 10.6% in June, has been in the double-digits for five consecutive months (note: India is one of the few countries that continues to use the wholesale price index to measure inflation instead of the more common consumer price index). In response, the RBI has been on a rate-hike spree since January. Today, in its quarterly review, the bank raised rates more forcefully than expected as it continues to try to tamp down inflation. But rate increases may only provide short-term relief, as this recent episode with runaway prices has shown that the RBI isn't very serious about controlling prices. – The Economist

Dominant Social Theme: India needs to get its house in order.

Free-Market Analysis: Another day, another dry and witty Economist magazine article advising another large country on what its central bankers need to do. There is never any doubt within The Economist brain-trust that central banking is a necessary phenomenon, or that it merely needs to be done a little "better" to be effective. In this case, we are led to believe that India's ruling class simply needs to lurch into the 21st century and start taking central banking a little bit more seriously. Here's how the Economist puts it:

In Part I, "The Danger," I explained the wide investment freedom you can achieve with an IRA structure that not one investor in a thousand knows is possible. It's the Open Opportunity structure, which is an IRA that holds a single asset – a limited liability company (LLC) that you manage. Because you are the LLC's Manager, with your own hands on the LLC's checkbook and with full authority to act when you see a profitable opportunity, your IRA can invest in just about anything.

That investment freedom has obvious implications for profitability. You're not limited to stocks and bonds. You can go wherever you think you'll get the best return. You can run your IRA more like an business and not just an account for passive investments.

And investment freedom has not-so-obvious implications for safety. Open Opportunity IRAs make up less than 1% of the IRA universe. So if and when a team of Congressional staffers or a group of Treasury Department bureaucrats get busy drafting up new rules aimed at skimming a few hundred billion dollars from IRAs, Open Opportunity IRAs probably won't be part of their thinking. The new rules, whatever they might be, could turn out to be ineffectual when applied to Open Opportunity IRAs.

Who needs a thermometer to know that the heat-wave is on?

Fofoa has just published another thoughtful paper with the title: Red Alert: Gold Backwardation!!! http://fofoa.blogspot.com. It raises the question nobody has apparently raised before: "Is the dollar bidding for gold, or maybe gold is bidding for dollars?" And it gives an amazing answer: the gold basis has been screwed and it has been giving bogus signals for more than a year. We have likely had backwardation all this time but it has been stonewalled. There is no real gold market any more. Goldman Sucks is playing with itself. Most trades are bogus, sales as well as purchases. Leases ditto. What Goldman Sucks couldn't get away in a falling market, it can in a rising one.

There are other metrics beside the gold basis that the market has developed in the meantime. One such is GOFO = $ LIBOR – GLR (the gold lease rate). On the face of it, GOFO cannot ever go negative. If it did, it would mean that the risk in borrowing gold is greater than the risk in lending dollars, even though the latter has infinite counter-party risk. But there is no counterparty risk in borrowing gold! That's a telltale for you. Nasty negative GLR, nasty negative GOFO, shut up, both of you!

Drip after drip of deflation data ... Today's release on manufacturing activity by the Richmond Fed is pretty ghastly, as you would expect given that the effects of fiscal stimulus are now wearing off at an accelerating pace – before the happy handover to the private sector is safely consummated – and given that the structural East-West imbalances that lay behind the global crisis are getting worse again ... This follows yesterday's horrendous fall in the Texas business activity index from the Dallas Fed, which fell from -4 in June to -21 in July. "Thirty-one percent of firms reported a worsening of activity, up from 22 percent in June," said the bank. Texas New Orders were -9.6 in July, -8.2 in June, and +15.8 in May. Capacity Utilization was -0.6 in July, +2.7 in June, and +18.7 in May. This of course is why Fed chair Ben Bernanke has been giving strong hints of QE2 (helicopters again) if necessary. – UK Telegraph

Dominant Social Theme: A deflationary depression coming at ya.

Free-Market Analysis: The Telegraph has been very good at diagnosing deflationary trends in the larger economy, and we have agreed with this analysis because it seems obvious. What is noteworthy, however, is that prices keep going down, as the Telegraph analyzes above, even though there are numerous proclamations that the "recession" is over.