Reply to: Pass the deflation parcel

[Zero Liability]

The Depression came with such a raft of questionable economic measures (incl the Treaty of Versailles and New Deal economic controls) that I don't think it can be blamed solely on rather abortive attempts to stick to what was left of the so called gold standard. It took a lot of work and genius to make it as bad as it was.

[BrilloPad]

Or the 12 year Depression that ended with a world war that killed 40 million people.

Yes deflation = Bad idea.

deflation did not cause the depression. it was trying to keep to a single currency(gold standard).

But Germany would never make the mistake of tying themselves to a currency standard and hence cause WW3 again - so thats okay then.

[SpontaneousOrder]

I buy into it 100%. What happens is there isn't any new credit, so that nice house you want to buy. Just wait another 15 years whilst you save the money up. My Grandfather bought his first house in 1937 this way after living with his parents for many, many years.

There's no requirement to inflate the money supply in order to lend credit.

Now the really bad bit, Companies start making losses, so they start to slash their fixed costs, rates and salaries start to go down, way down. Any outstanding mortgages or credit that anyone has suddenly becomes unaffordable, this in turn leads to a fire sale of assets with foreclosures and businesses shutting. This downward spiral feeds itself till its Grapes of Wrath time. Get in your camper van and drive to Romania in hopes of getting farm work.

Are you talking about sudden deflation right now? In an economy predicated on inflation?
Or deflation in general?

Unless it's the former (which isn't really what I was talking about - although it wasn't made clear), then what you wrote makes no sense at all.

[Zero Liability]

It's a bad situation regardless of the deflation, because all the money-printing solution does is prolong the eventual collapse of prices; it can be nasty, because of how much supposed wealth is revealed to have been built on a foundation of sand. Even now, with the supposed revival of the housing market, there's increasing concern that borrowers have become so inured to super-low rates that they are not prepared to deal with the effects a modest interest rate rise will have on mortgage affordability. Businesses are flush with cash, at present. The biggest potential losers in a deflationary situation would be the banks. However, how long can the global economy be so dependent on what are essentially credit intermediaries, and now zombies stuffed with money to keep them alive? Banks serve a vital function, in that they control where credit-driven investment flows, and when they cannot rely on others bearing their costs or issuing credit with no reserves, they have every incentive to be cautious about it. Quite the opposite when this doesn't hold, e.g. where they only need minimal reserves and are encouraged to hold bad debt falsely considered to be safe, like sovereign debt in the PIIGS.

Price inflation, whilst present in various mini-asset bubbles, has been relatively contained thus far, but equally the bank reserves have not seeped much into the economy, and countries like China are continuing to finance government debt in countries like the US, keeping the value of the dollar higher than it would be otherwise, and interest rates lower than they would be. If the banks decide to begin utilising the massive reserves they are sitting upon (seeing returns pick up to the point that they beat being paid to sit on it), it could get very messy and, if at that stage the central banks neutralise their reserves (like you say, very politically unpalatable), we could see an even greater collapse, assuming they act in time, rather than a gradual, managed deleveraging. Even Japan, where QE is working its alleged magic, is seeing price inflation of c. 3.2%, and this is with taxes being increased and bearing in mind that this sort of thing tends to have a time lag. So the central bankers are walking on a tightrope.

I wouldn't be surprised to see a few of the big governments, in the future, repudiate their debts. They've done this historically, when necessary. I think the reason this is being done by the ECB in Europe is to support the peripheral countries and some of the major southern economies, which would devalue their currencies in this sort of scenario, had they reserved control over them. Ironically, the Euro delivered them from the fate of their currencies competing against the stronger and better managed DM, but now its strength and central administration is acting against them. Germany and the stronger of the nordic economies have no real need for this sort of printing. It'll be interesting to see if the Germans just swallow it, or use this as a pretext to break apart the currency union.

In a sense, the British government is doing one good thing, and that is encouraging people to put money in ISAs, including through investments like P2P lending, to provide for their future. Possibly considering putting the brakes on its housing market, too, where supply isn't expected to make much of a difference for years to come.

[Zero Liability]

Or the 12 year Depression that ended with a world war that killed 40 million people.

Yes deflation = Bad idea.

You make it seem like they're linked, yet that is the only deflationary episode to turn into a depression, for a very wide set of reasons, many of which involve central bank mismanagement of the currency. You further make it seem like the war is attributable to the deflation, as opposed to the political manouevrings of the like of FDR, and the Versailles Treaty (as opposed, say, to the Weimar hyperinflation.)

I buy into it 100%.

Makes one of us. I certainly don't indefinitely defer purchases for that reason. The bit you conveniently left out is that most costs facing firms are also prices, and also will decrease provided nothing is there to stop them from doing so, which probably won't be the case if the govt has its way. It's true that debt that was made predicated on inflation rather than deflation will become harder to service. Much like it is the case that inflation will cheapen it (something lenders seem able to factor in when given clear signals), whilst simultaneously eroding away savings and constantly pushing up input prices. Where is your evidence of this "downward spiral"? Unless prices are not allowed to clear, there is no reason for it. A better solution would be not to inflate the money supply by credit expansion, which then later necessitates a deflationary correction, to begin with. But I have faith that the wizards in Threadneedle Street and at the Fed and BoJ know what they're doing... after all, we pay an exorbitant amount for these eggheads to occupy the privileged, unimpeachable positions they do, to then blame it on all the rest of us when things don't quite pan out the way they want them to, so they must.

The best we can hope for is a controlled unwinding process, rather than spewing more of the same monetary effluent back into the economy to keep artificial prices from reverting to levels warranted by demand/supply. The reason the CBs are so jittery about printing money is that they know they can rapidly lose control of how high inflation can go if this does enter the economy.

[BrilloPad]

Why do you want to prevent it?

Eventually everyone works out its a one-way bet. Feckless is the way to go.

[KentPhilip]

Why do you want to prevent it?

I'm not saying I would want to prevent deflation, I was just interested in whether the mechanism of printing money would be effective at preventing deflation.
It looks like the answer from Suity is that yes it would, but would make future deflation more likely (requiring the same thing to be done again) and have certain negative effects on the economy.

[SpontaneousOrder]

however monetary deflation tends to be the follow-up of artificial credit expansion

I.e. inflationary credit gone bad.
*if* we didn't rely on continual new money creating credit, then there would be no transient 'credit money' supply to evaporate resulting in money supply shrinkage, thus no monetary deflation. Only price deflation.

I think that makes sense. It's late.

[Zero Liability]

You can start with Sharia compliant finance and work your way down then.

Well the current paradigm of pushing interest rates down to near zero has more in common with that, than not falsifying them.

It's true that price falls arising from higher productivity tend to be conflated with monetary deflation (for the same reason that the converse phenomena are), which they ought not to be, however monetary deflation tends to be the follow-up of artificial credit expansion, so it's not clear to me why it should be prevented.

That said, just printing loads of money won't do so, you can do that to the point that interest rates go so low that it just won't work anymore. Thus the central banksters are forced to rely upon more 'creative' measures now.

[SpontaneousOrder]

I don't see what is the problem with deflation. I mean can't a central bank just print lots of money, and prevent it?

Why do you want to prevent it?

[suityou01]

Fair point.
Perhaps you'd be kind enough to explain why money printing would not prevent deflation?

No need to get all pissy.
Printing money is like giving a heroin addict a fix. Cures the problem until the next time.

[KentPhilip]

Sadly this is how people now think.

Fair point.
Perhaps you'd be kind enough to explain why money printing would not prevent deflation?

[suityou01]

I don't see what is the problem with deflation. I mean can't a central bank just print lots of money, and prevent it?

Sadly this is how people now think.

[KentPhilip]

I don't see what is the problem with deflation. I mean can't a central bank just print lots of money, and prevent it?

[ChimpMaster]

I don't buy into the deflation bogey man at all. Deflation should be the natural order of things, and is a good thing - [nearly] everything should be getting cheaper all the time as we get more and more efficient in producing goods & services.

Here's a decent summary: What

You can start with Sharia compliant finance and work your way down then.