best deflation argument I've seen

[Roughneck]

Not sold on it totally but they do make interesting points.I tulipers Fire away!

Debt and Deflation

Quarterly Review and Outlook Second Quarter 2009 DEBT ACTS AS A BRAKE ON THE MONETARY ENGINE One of the more common beliefs about the operation of the U.S. economy is that a massive increase in the Fed's balance sheet will automatically lead to a quick and substantial rise in inflation. An inflationary surge of this type must work either through the banking system or through non-bank institutions that act like banks which are often called "shadow banks". The process toward inflation in both cases is a necessary increasing cycle of borrowing and lending. As of today, that private market mechanism has been acting as a brake on the normal functioning of the monetary engine. For example, total commercial bank loans have declined over the past 1, 3, 6, and 9 month intervals. Also, recent readings on bank credit plus commercial paper have registered record rates of decline (Chart 1). The FDIC has closed a record 52 banks thus far this year, and numerous other banks are on life support. The "shadow banks" are in even worse shape. Over 300 mortgage entities have failed, and Fannie Mae and Freddie Mac are in federal receivership. Foreclosures and delinquencies on mortgages are continuing to rise, indicating that the banks and their non-bank competitors face additional pressures to re- trench, not expand. Thus far in this unusual business cycle, excessive debt and falling asset prices have conspired to render the best efforts of the Fed impotent. The 100% plus expansion in the Fed's balance sheet (monetary base) has done nothing to rekindle borrowing and lending or revive even the smallest spark of inflation. What is clear is that as long as private market factors in the monetary/credit 1creation process are shrinking, as they are now, the risk for the economy is deflation, not inflation. THE COMPLEX MONETARY CHAIN The link between Fed actions and the economy is far more indirect and complex than the simple conclusion that Federal asset growth equals inflation. The price level and, in fact, real GDP are determined by the intersection of the aggregate demand (AD) and aggregate supply (AS) curves. Or, in economic parlance, for an increase in the Fed's balance sheet to boost the price level, the following conditions must be met: The money multiplier must be flat or rising; The velocity of money must be flat or rising; and The AS or supply curve must be upward sloping. The economy and price changes are moving downward because none of these conditions are currently being met; nor, in our judgment, are they likely to be met in the foreseeable future. Aggregate demand (AD) is planned expenditures for GDP. As defined by the equation of exchange, GDP equals M2 multiplied by the velocity of money (V). M2 equals the monetary base (MB) multiplied by the money multiplier (m). Professors Brunner and Meltzer proved that m is determined by the currency, time, and Treasury deposit ratios, as well as the excess reserve ratio. The money multiplier moves inversely with the currency, Treasury deposit ratios, and excess reserve ratios and positively with the time deposit ratio. For example, if those ratios rise on balance, then m will decline. By algebraic substitution AD(GDP) = MB*V*m. In our present case, the massive increase in the Fed's balance sheet has created a sharp surge in excess reserves, and thus m has fallen. Obviously the preceding paragraph is as clear as mud. It is included to provide mathematical proof of the complex connection between monetary actions and real world results. The practical and straightforward fact is that GDP has declined in the face of a surge in M2 growth. The labor market equivalent of GDP (aggregate hours worked) has declined at a record rate over the last 18 months, the entire span of the recession (Chart 2). That is, the monetary surge was totally offset by other factors; thus, the recession deepened and inflation was nonexistent. The conventional wisdom is that the massive increase in excess reserves might eventually be used to make loans and reverse the economic contraction now underway, or that the velocity of money might increase. First, there is a very good explanation for the surge in excess reserves. The Fed now pays interest on its deposits, so banks have been incentivized to shift transaction deposits from riskier alternatives to the safety and liquidity offered by the Fed. Historically transaction deposits at the banks have fluctuated around 3% to 7% of a bank's balance sheet. In the second quarter, excess reserves averaged $800 billion which is 4.4% of the $18 trillion of bank debt (including off balance sheet). If this is the amount needed for transaction purposes, then this "high powered" money is not available for making loans and investments. Second, velocity (V), or the turnover of money in the economy, is far more likely to fall than to rise. This is because V tends to fall when financial innovation reverses downward. As this process continues excess leverage will eventually diminish and together they will lead V lower. This process has already begun in the household sector. In addition, the Fed needs an upward sloping supply curve to get the economic ball rolling. Today we estimate that the AS curve is flat. The reason it is in this perfectly elastic shape, rather than upward sloping, is that we have substantial excess labor and other productive resources. For example, in June the work week was at a record low while the U6 unemployment rate was at an all time high of 16.5%. No wonder wages are deflating. Further, industry capacity utilization was at a four decade low at 68.3%, while manufacturing capacity was at a six decade low for the longer running series at 65.0%. Indeed, when excess resources are extreme, the AS curve is likely to be not only horizontal, but shifting outward, meaning that prices will be lower at any level of aggregate demand or GDP. Thus, even if Fed actions could shift the aggregate demand curve outward, which it cannot do under present circumstances, inflation would still be a long way down the road. Thus, theory and current evidence clearly point to deflation as the overwhelming economic risk. A FISCAL POLICY DRAG Over the next four years, the ratio of U.S. government debt will rise to somewhere between 71% and 80% of GDP, up from 41% at the end of 2008. The 71% figure, which is from the CBO, is probably understated. The CBO figures do not include the debt of Fannie Mae and Freddie Mac (now owned by the U.S. government), and their economic forecasts are probably too optimistic. None of these projections have incorporated the proposed health care bill which would raise the debt ratio considerably. This substantial increase in government spending far exceeds projected rising revenue sources such as the large marginal tax increase that has been suggested by the reversal in 2010 of the 2001 and 2003 tax reductions. While the federal deficit is expanding, state and local government spending is being reduced and taxes have increased. It is highly unusual that state and local expenditures have actually decreased in current dollars in the past two quarters and, in real terms, spending is lower than a year ago. This is because state and local governments generally do not have the flexibility to incur deficits, yet they face potential deficits of about $121 billion for fiscal 2010. The Center for Budget and Policy Priorities indicates that thus far this year 23 states have imposed tax increases, with another 13 considering them. This is in addition to the ten states that imposed higher taxes or other revenue boosters in late 2007 or 2008. Therefore, the apparent thrust of federal policy is stimulus, while state and local policy is contractionary. Interestingly, the term "federal stimulus spending" is an oxymoron. Many assume that the act of sending checks from the federal government sector to the private sector helps the economy through so-called spending multipliers. Multipliers take into consideration the second, third, fourth, etc. round effects from an initial change. Thus, multipliers capture the unintended consequences of policy actions. Although the initial spending objectives may be well intended, the ultimate outcome becomes convoluted. Over the past several years, multipliers have been intensively examined by leading economic scholars. Robert Barro of Harvard University calculates in Macroeconomics a Modern Approach (Thomson/Southwestern, 2008, p. 307) that the government expenditure multiplier from 1955 to 2006 was negative .01, not statistically different from 0. The highly respected Italian econometrician Roberto Perotti of Universita' Bocconi and the Centre for Capital Economic Policy Research has also done extensive work on this subject while visiting the fiscal policy division of the ECB. In October 2004, in his Estimating the Effects of Fiscal Policy in OECD Countries, Perotti calculates that the U.S. expenditure multiplier is also close to 0. Thus Barro and Perotti are saying that each $1 increase in government spending reduces private spending by about $1, with no net benefit to GDP. All that is left is a higher level of government debt creating slower economic growth. There may be intermittent periods when government spending will lift the economy, but offsetting episodes will follow. The best available empirical research suggests that the current federal policy of expanding spending will retard, not improve, the performance of business conditions. In addition to spending multipliers, however, there are also tax multipliers. The most extensive research on tax multipliers is found in a paper written at the University of California Berkeley entitled The Macroeconomic Effects of Tax Changes: Estimates Based on a new Measure of Fiscal Shocks, by Christina D. and David H. Romer (March 2007). (Christina Romer now chairs the president's Council of Economic Advisors). This study found that the tax multiplier is 3, meaning that each dollar rise in taxes will reduce private spending by $3. Presently, the federal government is increasing spending that in the end may actually retard economic activity, and is also proposing tax increases that will further restrain private sector growth. This policy mix is the same approach that failed in the U.S. from 1929 to 1941 and also failed in Japan over the past two decades, a subject we addressed in our April letter. In other words, fiscal policy is executing a program that is 180 degrees opposite from what it should be to stimulate the economy. How is it possible to get an inflationary cocktail out of deflationary ingredients? BUSINESS CYCLE IMPLICATIONS FOR EQUITIES The preferred way to answer the business cycle question of expansion versus contraction is to examine the four variables most integral to the economy's performance: employment, production, personal income, and sales. For these variables to be consistent over time, the income and sales must be adjusted for inflation and personal income must exclude government transfer payments. Recessions end when the National Bureau of Economic Research (NBER), the official arbiter of such matters, says they end. But sometimes economic conditions suggest that the NBER miscalculated. Economic recovery occurs when these four indicators turn higher at about the same time. If the NBER's cycle turning dates are aligned with these four indicators they have validity. Regardless of the NBER's opinion, if the four indicators are not rising, a normal recovery will not occur. This seemingly esoteric point has important implications for the stock market. In all the recessions from 1967 to 1999, the NBER aligns its recession ending dates very well with the unified recovery in income, production, employment and sales (Charts 3 & 4). However, for the 2000-2001 recession the NBER call date for the recovery did not line up with these four coincident indicators. Although the recession officially ended in November 2001, employment and income had not turned higher. In fact, they did not trough until March and August 2003 recording lags of 16 and 21 months, respectively. Thus, the economy was only in a partial recovery, a situation that had huge stock market implications. The S&P 500 Stock Price Index troughed prior to the end of all the NBER defined recessions from 1967 through 1999, in concert with the four key economic variables (Chart 3 & 4). However, in 2001 the S&P bottomed 15 months after the end of the NBER defined recession yet one and six months before the cyclical troughs in income and employment, respectively. In other words, stock prices anticipated the complete, not partial, recovery of these pillars of economic growth. Although all four of these indicators are still falling, the critical event for the financial markets will be when all four finally turn higher. If a complete recovery of these four variables is still far in the future, then the current gains in the stock market cannot be sustained, just as rallies were not sustained in 2001. DEBT DEFLATION AND BONDS Total U.S. debt as a percent of GDP surged to 375% in the first quarter, a new post 1870 record, and well above the 360% average for 2008. Therefore, the economy became more leveraged even as the recession progressed. An over- leveraged economy is one prone to deflation and stagnant growth. This is evident in the path the Japanese took after their stock and real estate bubbles began to implode in 1989. At that time Japanese debt as a percent of GDP was 269% (Chart 5). This percentage actually continued to move higher until 1998 when it peaked at 345%, below the current level in the U.S. While the Japanese increased leverage for nine years after the bubble highs, neither highly inflated stock and real estate prices nor economic performance could be sustained as debt repayment became more burdensome. Contrary to many evaluations of Japan's problems, traditional monetary policy was actually working. This is evidenced by the enlarged Japanese debt ratio in the early years after 1989 which was not merely due to increased government debt. Private debt as a percent of GDP also rose from 219% in 1989 to its peak of 274% in 1996. However, private debt as a percent of GDP turned down in 1997 as government debt absorbed a rising proportion of Japan's credit resources. The greater private debt load, from 1989 to 1996, as well as the massive increase in the government debt from 1989 to the present, coincided with two lost decades, not with prosperity. This template of increasing debt, combined with decreasing asset values, is a warning to investors of the efficacy of our current fiscal and monetary postures. The combination of an extremely overleveraged economy, ineffectual monetary policy and misdirected fiscal policy initiatives suggests that the U.S. economy faces a long difficult struggle. While depleted inventories and the buildup of pent-up demand may produce intermittent spurts of growth, these brief episodes are not likely to be sustained. In several years, real GDP may be no higher than its current levels. However, since the population will continue to grow, per capita GDP will decline; thus, the standard of living will diminish as unemployment rises. These conditions will produce a deflationary environment similar to the Japanese condition. Investments in long term Treasury securities are motivated by inflationary expectations. If fixed income investors believe inflation is headed lower, they will invest in long-dated securities, while they will invest in Treasury bills, or inflation protected securities if they believe inflation is headed higher. In the normal recessions since 1950, the low in inflation was, on average, 29 months after a complete economic recovery was underway, and bond yields moved in a similar fashion. If this recession were normal, then the low in inflation would be in late 2011, at which time investors would begin to consider shortening the maturity of their Treasury portfolios. However, because of our highly-indebted circumstances and the movement of private sector resources to the public sector, the trough in inflation will be moved out, meaning that the low in Treasury bond yields is a distant event. The path there will be bumpy, as it was in the U.S. from 1929 to 1941 and in Japan from 1989 to 2008. Presently the 10-year yield in Japan stands at 1.3%. Ultimately, our yield level may be similar to that of the Japanese. Van R. Hoisington Lacy H. Hunt, Ph.D.

[MulaMan]

Re: best deflation argument I've seen

After deep analysis, the following is the best I can do to Net-Out this article.

Obviously the preceding paragraph is as clear as mud.

With so many inflation/deflation arguments out there, the only thing I feel I can personally grab onto and bet on is something simplistic like?

1. The USD is still the world's reserve currency.

2. The USA has the ability to print as much money as needed to prevent deflation: trillions, quadrillions, septendecillions, or even a googol.

3. The Federal Reserve will do everything possible to avoid deflation.

Hence there will not be any major deflation.

or

1. There is still a ton of leveraged derivatives in global financial systems.

2. Warren Buffet says derivatives are financial weapons of mass destruction and I'll take WB's advice over a googol of economists anyday.

3. The Federal Reserve has no real control over economic policy and never has.

4. The Fed will do everything it can to prevent deflation and yet still fail.

5. Hence, there will be delfation.

[nero3]

Re: best deflation argument I've seen

I have seen this one before. I feel the US is halfway in an inflationary cycle, while japan happened halfway of what was an 18 year long deflationary cycle, for the world economy as a whole. I think that means the US have much less room, than japan, to stimulate the economy, but I could be wrong. I think productivity gains, the moving to cheaper goods, cheaper manufacturing, all those effects have pretty much played out. As it is talked about, a jobless recovery in the US while the dollar weakens, and things start to improve in emerging market's and elsewhere is not that unlikely.

[icm63]

Re: best deflation argument I've seen

The Govt can put money into circulation two ways:
1) Print it and spend it based on there judgement
2) Cut taxes and let the consumer surplus be spent/saved/invested based on there judgement.

Its an illusion to think the FED can stop deflation by printing money, if delfation was to grip USA, they only way to stop is CUT TAXES (2 above).

Why..Govt have no idea how to secure a REAL rate of return for the risk of the expenditure/investment. USA needs the smart consumer to take a risk and make a return that will hopefully result in growth and employment.

For every dollar spent in the economy (govt and consumer) the best way to get the highest rate of return is to have Govt do to less of the spending. Hence small govt leads to greater growth (ie your Ronald Reagan years or early Clinton years).

Higher rate of return = Growth = Employment and efficient use of capital.

Poor Rate of return or worse losses means the the debt behind the capital just adds to the USA total debt, not so good !

[touchring]

Re: best deflation argument I've seen

The Govt can put money into circulation two ways:
1) Print it and spend it based on there judgement
2) Cut taxes and let the consumer surplus be spent/saved/invested based on there judgement.

Its an illusion to think the FED can stop deflation by printing money, if delfation was to grip USA, they only way to stop is CUT TAXES (2 above).

Why..Govt have no idea how to secure a REAL rate of return for the risk of the expenditure/investment. USA needs the smart consumer to take a risk and make a return that will hopefully result in growth and employment.

For every dollar spent in the economy (govt and consumer) the best way to get the highest rate of return is to have Govt do to less of the spending. Hence small govt leads to greater growth (ie your Ronald Reagan years or early Clinton years).

Higher rate of return = Growth = Employment and efficient use of capital.

Poor Rate of return or worse losses means the the debt behind the capital just adds to the USA total debt, not so good !

Maybe California can start off by waiving off property tax for 2009.

http://www.itulip.com/forums/showthr...620#post109620

[marvenger]

Re: best deflation argument I've seen

man its so easy, just do nothing. so when doingnothing, repealing Glass-Steagal, leads to the shit hitting the fan, the solution I guess is to do nothing.

[Roughneck]

Re: best deflation argument I've seen

One of the main arguments for inflation is higher levels of government borrowing pushing up rates,increasing debt and putting pressure on the dollar. The argument here is that so much government borrowing will actually suck money out of the economy and be a drag on it. As far as a downward deflationary spiral,yes the fed can stop that. But, I think what they are reffereing to here is years of very low economic growth(IE Japan).Interesting.

[c1ue]

Re: best deflation argument I've seen

The article is very straightforward from a monetarist viewpoint.

The error - IMO and as contrasted by iTulip - is that the ongoing increasing debt loads are eventually going to result in choking the marketplace. This may not be so far away.

Thus while one point in the article may be true - i.e. that the government spending will not re-stimulate the economy and instead will kill private investment - on the other hand this does not mean that interest rates cannot go up.

The use of Japan is again a false analogy. The Japanese debt is owed to themselves and thus Japan has full control over its own interest rates. That well is running dry but nonetheless the US situation is completely different in that a large part of the US debt is owed to foreigners and the US has already plan of record to borrow a large chunk more.

Another issue is that the article doesn't deal with the dollar. This is a vital omission: even disregarding other effects, a long term declining US economy equally bodes poorly for the US dollar.

Thus at least 2 potential avenues for price increases are ignored:

1) interest rates rise due to balance of payments shock (as iTulip has noted). Prices follow as businesses must pay more for credit interest on inventory even if the initial impetus is down.

2) prices rise due to dollar devaluation as the US' role in world trade declines - and all those trillions of dollars in cash and trade carry are returned home. Think oil shock of 1970s.

[grapejelly]

Re: best deflation argument I've seen

This article gilds the lily and confuses something that is really simple.

Two points. First:

The more the government borrows, the less is available for productive uses.

Only cranks such as Obama can believe that government borrowing and deficit spending "creates jobs."

The opposite is true. If Japan had pursued a policy of letting banks go under and staying out of the economy, Japan would have had a sharp short depression, then a long and profitable recovery.

Compare the depression in 1920-21 to that of 1929-1946.

The governments today are all doing what they did in 1929-1946 and the results are predictably the same.

Remember the doctors are said to have bled George Washington? The solution of bleeding a patient makes the patient sicker. Then they bleed the sicker patient some more in order to make him well.

This is exactly what they are doing today and it's all public policy due to the monopoly on fiat money.

Second point: deflation is completely impossible today. Because of the confusion between money and credit, it SEEMS that deflation is possible but it is not.

As an example, in a simple sandbox economy, Abe lends Betty $100. Betty has $100 and Abe has a note for $100 from Betty. If Betty defaults, is that deflation? No. Betty spent the $100 by buying some bread from Charlie. Charlie still has that money, or has spent it by buying an oven from Danielle.

If on the other hand, Abe has $100 and puts it in a bank, and the bank goes under, then the $100 that Abe had is gone. And the money supply shrinks. Something that is very difficult today because banks are not allowed to go under.

There is a difference between money and credit. It is very hard to see today because there is so much credit and so little money. I thank EJ and his interviews with Michael Hudson for the understanding of why this is.

The reality is that there was no deflation in Japan as far as I can tell from charts and graphs. There was a very short period with a brief negative rate of monetary growth.

Today the chief problem with people's view of economics is confusing debt and credit with money.

Homeowners counted their house as money because they could borrow on it by writing a check on a line of credit. If there is something more likely to cause confusion between money and credit, I don't know what that could be.

When home values fell, this was widely seen as deflationary. It is not. It simply results in less future indebtedness.

The loans that homeowners do not pay back, are those deflationary? They are not. Going back to my sandbox example, the loan that Betty defaults on causes NO deflation because the money is still in the economy and doesn't go away.

[Roughneck]

Re: best deflation argument I've seen

grapejelly and clue you both make excellent points. I am trying to develop my own opinions to guide investment descisions so all input either way IS appreciated. I'm tending to think we are headed for stagflation. low economic growth and high inflation for monetary reasons,weak dollar due to high debt levels.

[metalman]

Re: best deflation argument I've seen

Thus at least 2 potential avenues for price increases are ignored:

1) interest rates rise due to balance of payments shock (as iTulip has noted). Prices follow as businesses must pay more for credit interest on inventory even if the initial impetus is down.

2) prices rise due to dollar devaluation as the US' role in world trade declines - and all those trillions of dollars in cash and trade carry are returned home. Think oil shock of 1970s.

those are the two that everyone ignores... and ej brings up over and over and over. are you and i the only two who actually read the articles here?

Everyone is wrong, again – 1981 in Reverse Part II: Nine Signs of Inflation – Eric Janszen

Massive debt monetisation +
Credit crunch induced supply shock +
Bankruptcies induced industrial concentration +
Rising economic nationalism and deglobalization +
Higher nominal profit rates required to rebuild the global product supply chain +
Inflationary public sector goods and services provisioning +
Weakening dollar and cost-push inflation from energy imports +
Delayed inflationary impact of excessive money growth +
Inflationary institutional policy bias
=
Rising inflation no later than Q1 2010

ahead of schedule?

Wholesale prices, retail sales rise in June

Wholesale prices, retail sales rise more than expected in June, led by higher energy costs

WASHINGTON (AP) -- Higher energy prices rippled through the economy in June, helping to drive a bigger-than-expected gain in retail sales.

The sharp rise in wholesale prices -- as well as "core" prices that exclude food and energy -- could fan investors' fears about inflation. Economists viewed the energy cost hikes as temporary and not the beginning of a dangerous bout of spiraling prices, but said consumers likely will remain cautious as the unemployment rates ticks up.

[occdude]

Re: best deflation argument I've seen

First off, I see deflation in the near future (KA) with inflation catching up later(BOOM). If the government tries to get cute with money printing, the bond market is going to kick them square in the groin. When asset prices fall, it causes people to go to cash (demand for dollar goes up, assets down=deflation). "But" you say. "Surely things like energy and food will go up?" Negative, people will eat less and walk more. Without jobs and income people will become remarkably resourceful.

Any talk of inflation with unemployment at 10 plus percent and the average American 20 percent overweight is premature.

Talk to me when people are skinny and working (make work jobs by the gubmint). Then we should see inflation, which is coming, simply due to the fact that "nothing fails better than success". Once they realize they can get away with printing money during deflation, they will at some point over shoot, then off to the races we will go. Once balance sheets are fixed, assets sufficiently liquidated, people employed in crap non-productive jobs provided by Uncle Sam, then hello Zimbabwe. Until then enjoy the deflationary fireworks.

[c1ue]

Re: best deflation argument I've seen

First off, I see deflation in the near future (KA) with inflation catching up later(BOOM). If the government tries to get cute with money printing, the bond market is going to kick them square in the groin.

This may be, but one thing to consider: the US already is the largest economy in the world. By extension the US government has the greatest economic power of any single organization in the world.

But size doesn't always help. When you are the largest debtor and must borrow money, then being large is a bad thing.

The point about the balance of payments crisis is that there may not be enough money to fund US debt demands irregardless of the market's desires.

The 'bond vigilantes' or whatever thus may be irrelevant.

In contrast the US government as the largest economic power organization similarly holds unprecedented ability to inflate. That we haven't seen the inflation yet doesn't mean it cannot - think on this for a minute:

The $12.8T that was used to 'stabilize' the US markets and economy in 2008 is 23% of the entire world's GDP ($54.6T).

The net $12.8T assistance plus $14T in US GDP = 66% of the rest of the world's GDP($40.6T).

On top of this we're talking $2T deficit this year, $2T deficit next year, $5T deficit net throughout Obama's term.

Do you really think this situation is going to end as neatly as deflation, followed by inflation?

I'm thinking more along the lines of Germany 1923 replete with food riots, creditors repossessing the Saar (Alaska), rise of ultra-nationalist extremist groups, etc.

[Camtender]

Re: best deflation argument I've seen

Some Common Fallacies About Inflation and Deflation: the Weimar Nightmare in Review


There are several fallacies making the rounds of the economic community, often put forward by pundits on the infomercials for corporate America, and also on the internet among well-meaning but badly informed bloggers.

The first of these monetary fallacies is that 'the output gap will prevent inflation.' The second is that a lack of net bank lending or other 'debt destruction' will require a deflationary outcome. Let's deal with the output gap theory first.

Output gap is the economic measure of the difference between the actual output of an economy and the output it could achieve when it is most efficient, or at full capacity.

The theory is that when GDP underperforms its potential, with unemployment remaining high, there can be no inflation because demand is weak and median wages will be presumably stagnant. This idea comes from neoliberal monetarist economics, and a misunderstanding of the inflationary experience of the 1970s.

The thought is that sustained inflation is due to a 'wage-price' spiral. Higher wages amongst workers cause prices to rise, prompting workers to demand higher wages, thereby fueling inflation. If workers do not have the ability to demand higher wages there can be no inflation.

While this is in part true, it tends to confuse cause and effect.

The cause of a monetary inflation, which is a broadly based inflation across most products and services relatively independent of demand, is often based in a monetary expansion of the currency resulting in a debasement and devaluation.

A monetary expansion is relatively difficult to achieve under an external standard since it must be overt and often deliberative. A gradual inflation is an almost natural outcome under a fiat currency regime because policy-makers can almost never resist the temptation of cheap growth and the personal enrichment that comes with it.

There can be short term non-monetary inflation-deflation cycles that tend to be more product specific in a market that is not under government price controls. But this is not the same as a broad monetary inflation or deflation.
The key difference is the value of the dollar which has little or nothing to do with a business cycle or product demand/supply induced inflation/deflation.

In the modern era the Federal Reserve can increase the money supply independent of demand by the monetization of debt, with the only restrictions on their ability to increase supply being the value of the dollar and the acceptability of US sovereign debt. This requires the acquiescence of the Treasury and the cooperation of at least one major money center bank.

People tend to invent 'rules' about how the money supply is able to increase, and confuse financial wagers and credit with money. This is in part because the average mind rebels at the reality behind modern currency and the ease at which it can be created. Further, people often invent facts to support theories that they embrace in an a priori manner.

In a pure fiat currency regime, the swings between inflation and deflation are almost always the result of policy decisions, with the occasional exogenous shock. A government decides to inflate or strengthen their money supply relative to productivity as a policy decision regarding spending, central bank credit expansions, banking requirements and regulations, among other things.

As a prime example of a rapid inflation despite a severe economic slump, what one might call uber-stagflation, is the Weimar experience.

[lsa420]

Re: best deflation argument I've seen

those are the two that everyone ignores... and ej brings up over and over and over. are you and i the only two who actually read the articles here?


ahead of schedule?

Other people (myself) read them ahead of schedule as well

On that note, I think it's also worth mentioning our $1.8T deficit as a looming danger....