Topic: Economics
Should We be Afraid of Deflation Some economists think deflation is a bigger risk than inflation right now. I am not convinced.by The Frugal Libertarian
(libertarian)
Monday, October 6, 2008
Now some economist think we should fear deflation because of falling commodity prices. They want central banks to keep interest rates low to prevent deflation. Apparently they think doing more of what got us into this mess will fix the mess.
Some deflation is exactly what we may need at this time. There are different types of deflation.They can be good for the market players. An example of good deflation is with computers. They use to cost millions of dollars, but as technology improved and manufacturing of computers became more efficient, the price went down, while profits for the computer companies went up. Another example of good deflation is what we are seeing some of now. "Bank credit deflation" is when the money supply decreases. Fearing runs on their deposits, banks stop lending and hold onto their assets. This freeze of credit that has everyone worked up may be just what we need to get back on track. In the 1830's this occurred and the malinvestments of the previous inflationary decade were liquidated. Even though the money supply contracted more than 30%, the GNP increased by 16%. Real consumption increased by 21% during this time. Resources were allowed to be reallocated making recovery less painful.
Of course we will not see prices drop because the Fed will continue to pump fiat money into the banks and prevent the deflation we may need. The idea that dropping commodity prices signal the need for more fiat money will lead us to hyperinflation. According to Joseph Salerno "industrial commodity prices andconsumer prices move in opposite directions during periods of recession and financial crisis." So what we are seeing is more likely the effects of inflation, but we will most likely respond with more inflation.
So should we be afraid of deflation? No! We should still be very afraid of inflation. The recent drop in commodity prices is most likely the beginnings of higher prices for us consumers. Would you rather be in recession with prices going up or prices going down?
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The FED has been pumping money into the system faster than a coked up yuppie can roll a dollar bill. More than a trillion dollars so far and counting and now the 700B bailout - inflation is the order of the day. Commodity prices (oil mostly) are dropping because of lower demand. Hopefully that will continue. It's going to be a harsh winter as it is.
Posted By: Jahfre Fire Eater
Date: 2008-10-06 17:27:11
As long as Congress is corrupt (except Ron Paul) and the Federal Reserve has a printing press and the notion that it exists to prevent price declines on anything, we will not, cannot have general deflation.
Some things will deflate, like oil. Eventually some energy dependent industries, like gold and silver mining and agriculture will begin to grow due to the deflation in oil prices caused by recession.
In a world economy geared toward ever increasing consumption, a recession will cause the energy distribution capacity to be full quickly. That will keep the price of oil low long enough for some stability to exist. This will encourage investors to engage in risk taking on energy dependent ventures. That is when our recover should start.
Except the corrupt Congress (except Ron Paul ) and the next President will certainly do something to ensure that doesn't happen.
Deflation according to one definition is a reduction of prices dues to a falling money supply. The drop in PC prices is not deflation by that definition. Maybe the drop in house prices is.
Anyway it seems to me that we are currently experiencing deflation in house prices and inflation in food and energy, except gasoline is falling right now too.
I don't know which is worse inflation or deflation. We have experienced chronic inflation throughout our entire lives. We have no personal experience with deflation except perhaps for the very oldest of us.
Its hard to understand how we could have deflation with a fiat currency, since government can just print more and more of it. And helicopter Ben seems committed to doing exactly that. We should not suffer from a lack of money. But that does seem to be happening in housing at least.
Your example of the 1830s may be well taken, I cannot refute that argument off the top of my head. All I can say is that for me, as for most, the mortgage is the biggest line item. Under deflation the real burden of the mortgage will become heavier, in aggregate, which will become a vicious circle. See Irving Fisher's "debt-deflation" concept. We'll see, won't we?
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