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The Deflation Bogeyman
Based on the comments and emails I'm receiving lately, it appears more and more people are hopping on the deflation bandwagon. These correspondences have exposed to me an obvious misunderstanding of basic facts. While I suppose I am an "inflationist", I'm the first to admit that deflationists have some valid arguments to support their claims. But at the end of the day, their arguments are flawed; I just don't see deflation as a realistic threat moving forward.
There is a constant tug of war between deflation and inflation that hinges on factors such as money supply, credit, interest rates, and inflation expectations. While these variables push inflation in either direction, there is undoubtedly one variable that swings the odds decisively in either direction, and that is the dollar. There can be no sustainable deflationary trend with a falling dollar any more than there can be an inflationary trend with a rising dollar.
So let's get one thing out of the way. Deflationists are saying that the dollar will rise in value, and based on some of the doomsday asset collapse projections I'm hearing, quite dramatically. Now if this isn't already ridiculous to you, I'll examine some of the factors that will make a sustainable rise in the dollar unlikely. To do this, we must explore the last great deflationary period in the U.S, the Great Depression.
Most people think of the Great Depression as one continuous deflationary collapse- but it wasn't. Broadly speaking, we can break down the Great Depression into 3 stages: 1929-1932, 1933-1937, and 1938-1941. The key period is 1933-1937, for this is when we saw the initial inflationary effects of going off the gold standard.
Below I will present some things to take away from the Great Depression. These factors are critical to understanding why a deflationary collapse is unlikely to occur based on present-day conditions.
Agrarian-Based Society
During the Great Depression, farmers accounted for nearly half of labor. The maturation of the American economy from an agrarian to industrial economy created a staggering level of unemployment, which was deflationary. The Dust Bowl of 1933 obviously exacerbated the problem and put pressure on wages.
However, from 1933-1936, the second phase of the Great Depression, unemployment declined from 25% to 11%. Spending power reappeared, as evidenced by a spike in real final sales. Deflation? I don't think so.
Mass Defaults in Europe/Gold Standard
The 1930's were characterized by mass defaults across Europe stemming from a sovereign debt crisis. Defaults were directly correlated to debt to GDP ratios and the percentage rise in budget deficits in preceding years.
The psyche of Europeans was obviously scarred due to world wars, revolutions, and constant conflicts. As soon as sovereign nations started to default, capital sought safety. The U.S. was one of the few countries that remained on a gold standard, so capital flooded into the U.S. dollar, which for all intents and purposes was as good as gold. So the rise in European defaults activated a temporary flood into the U.S. dollar (aka gold) in 1930-1931, which created the sensation of deflation in America. In effect, the deflationary trend was accelerated by the concentration of capital in U.S. dollars.
1933-1937 Deflation?
As soon as FDR was inaugurated he took us off the gold standard, which immediately devalued the dollar and sparked an inflationary trend. This created a spike in asset values that was most notable in stocks. There was some semblance of a recovery, but it was short-lived because of flawed government intervention. But that's a story for another day.
Anyway, how many deflationists will tell you that CPI rose from 1933-1937? I'm guessing none. But sure, go ahead and listen to the deflationists who take a chart of the Dow in 1931 and plot it against a 2010 chart and predict a stock market collapse. Absolutely. Utterly. Ridiculous.
After collapsing in the early stages of the Great Depression, GDP exploded for the duration of the Great Depression. Now obviously this occurred because of massive government spending. But a good forecaster must account for government intervention; otherwise their analysis is seriously flawed. The fact remains that the government won't idly stand by if there is a massive deflationary episode in the U.S.
Debt Destruction
Deflationists constantly conflate debt destruction with deflation while forgetting one tiny fact: The government has a technology called the printing press. A determined government can easily fight deflation. We already got a glimpse of how the government can counteract the forces of deflation by handing out free money in the form of homebuyer tax credits. The spike in sales of homes spurred by tax credits confirms that you can manipulate behavior by giving out free money. This proves beyond a doubt that a determined government can create price distortions.
The most important point I am going to make is this: The coming inflation will result from a loss of confidence in government. A massive deflationary collapse can only occur if: a) our Federal government resorts to full-scale austerity measures (unlikely); b) Americans hoard dollars (unlikely); and c) there is a rise in the value in the dollar that evidences a rise in confidence in government (impossible).
I urge you to consider the aforementioned arguments and stop listening to deflationists. I will add the caveat that there will be huge moves in the dollar in both directions. In other words, we can experience temporary bouts of deflation. But to predict a drawn-out deflationary collapse is just ludicrous. A 90% decline in stocks is ludicrous. So is a 90% drop in real estate. The odds are heavily tilted against those things happening for the reasons I outlined above. The only real threat is inflation- about this I am sure.
From Expected Returns.
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schoolsout
I got the Welding idea from Mike Rowes TED talk.
http://www.youtube.com/watch?v=IRVdiHu1VCc&p=9DD399805F715133&playnext=1...
Worth the watch. Rowe points that few people have gone to Trade school.
Which sucks.
At one point I took every crappy job there was because I could and needed the money. Today I see people hold out for something where they can sit on their asses all day.
That's not work.
First, go to the doctor and get your head examined.
Who reads FOFOA, knows that gold goes up during inflation and deflation and then asks a question like this ? ^^
Spitzer
Did you bother to read the endurable assets part?
Endurable Wealth Assets
Real Estate
Fine Art
Antiques
Collectibles
Gold
Other Precious Metals
Gemstones
Rare Classic Cars
I'm seeing Gold as one choice.
A paid off house in a safe location, with a source of clean water and enough land to grow food if necessary; some gold; part of your money in Harry Browne's Permanent Portfolio if you want to take the guesswork out of things...
Whatever you do, as the future's unknowable, don't put all your eggs in the same basket.
Also, gems are a fake market and collectibles, art, antiques, etc. are probably only for experts.
Let me answer your riddle with another. What do you need to live and be happy? Varies wit the person, doesn't it. Basics are food, water, shelter energy sources and medicine and the technical skills to use them effectively. So, stock enough to last a lifetime on land isolated enough to minimize problems with others who did not have your foresight. But people also need love, art (say jazz), companionship, physical activity, freedom. We're complex, aren't we? So, in the event of a social collapse, it won't be much fun for anyone.
Hey Trane, I've been meaning to talk to you about the handle. He was one of my faves along with Wes who both passed on the same year (1968). His time with Miles and Cannonball, Paul Chambers and Philly Joe were the apex of the era. Think 1956 and the title of an album. Milestones
John_Coltrane
I think you missed the point. If you have cash/money, how are you supposed to invest it with both threats coming this way?
It isn't about minimalism. It is about protecting what you already have.
Protecting what you have with the knowledge that bad juju is inevitable.
It isn't even about growing your investment just losing as little as possible.
g,
here you have refined the dilemma to the nub.
crux as it were. you should choose that which
is you, that which has chosen you.
i ask the question does land resonate with you?
is trading gemstones something you love?
do you have what it takes to guard art or antiques
with your life?
it comes down to " what do you love " , you can live with
no matter what because the association itself is a
source of personal and societal inspiration, survival and
value.
etc.
thanks for your post.
Listen stupid...
At least you know what direction the tsunami is coming in. Most people can't even balance their cheque book and count to 10, let alone understand that something is coming.
When deflation starts to hit, buy bullion (it will drop in price), sit in some cash and buy CDN or AU dollars. When the gov't starts the printing presses, inflation will take off and so will your metal prices. By then, the USD will have defaulted. Stop thinking like a day trader and look at the bigger picture.
At least you're going to come out of this thing with purchasing power compared to most.
Not meant as investment advice.
The Socialists are very likely to lose at least one chamber of Congress this fall, which will create gridlock in D.C. Right or wrong, the Republicans (I don't have a perjorative name for that party although they deserve one) are going to implement austerity, at least relative to the Socialists. Banana Ben does not control cash for clunkers or homebuyer tax credits, the Congress does that. Banana Ben can buy financial assets, so betting on deflation in financial assets may be a loser.
The Rethuglicans. Blue Team are Demoncrats.
Rethuglicans in office have carried out socialism for large corporations, multinationals, military-industrial complex members and the like, just like the current Administration. There is no difference between the Blue Team and The Red Team on this issue.
By the way, I don't buy the arguments here against deflation, but don't have the time or energy to explain why endless printing cannot possibly be an answer, nor can endless government programs defeat economic depression. Since it is your prime thesis that these things are very easily done, and sustain asset prices, etc. indefinitely, even as debt rises to an unserviceable level, we are too far apart.
And the winner of the most lazy and smug post contest is: This Guy!
Chemba
You want to explain just how Corporatists are Socialists? Because I'm really tired of the contradictory asshole shit regarding modern politics.
If you mean Socialism for Corporations, I think most of us can agree with that.
But if you think any modern politician in the US, and most likely the rest of the world, is a TRUE Socialist then you have been huffing the Golden paint to fucking much.
most people have no clue of just how extremely determined the politicians are to keep inflation going. they will keep it going no matter what!
http://covert2.wordpress.com
This is soooo.... on the mark. At the first sight of deflation, the printing presses will crank out full and we'll see an increase in the Velocity of money... which leads to inflation.
A Great article!
How can you not say that we are in a period of deflation? Deflation is usually followed by inflation. So, we have every right to be fearful of what is ahead....... it won't happen next month. But, let's at least look at the facts (and not prior government lies, i.e. CPI, Inflation reports).
From 2000 to 2008, the following shot through the roof:
Housing, Stocks, Gas, food prices, car prices, medical expenses, travel costs, personal and government debt, Right Guard, prescriptions, executive pay, Gold, CRE, taxes, etc.
Maybe I am blind, but am I the only one who believes we had an extended period of inflation already? NOTHING went down in price during those years. The problem is the sheeple were lied to about the control of inflation.......and now our government can deal with deflation for the time!
You know, in the military we had a saying... it was one of Murphy's Laws of Combat:
"When both sides are convinced they are about to lose, they're both right"
We're basically all arguing whether or not it's going to suck or blow. I'm pretty sure we can manage to do both at once, plus a few other things we don't even have words for yet.
And what happens to the bond market when those printing presses "crank out full"?
A better question: If you were lending money in an inflationary environment, what interest rate would you demand?
I'm no deflationist. But where do you get the velocity when no won has credit? Just askin.
Spot on. Velocity is gone for a generation. Also there is little talk of expectations. If you expect deflation, you get it. Vice versa. Running the printing presses flat out will just lead to another asset bubble.
This is a sensible question.
The curve is being flattened and banks are now starting to lend to consumers in order to meet earnings. Also, no surprise, the government has other ways of pushing money out into the system... but by that time, you'd want to be sitting in your hunting lodge with solar panels, your crossbow and gun.
Banks are (kinda, not really) trying to lend.
But at rates that anyone with a sane mind will refuse.
And, just to keep all on the same page, the FDIC demanded that banks reduce their commercial exposure this year.
Anyone care to guess what that means on Main Street?
As a business owner with a mortgage and customers with mortgages and credit lines, I'll tell you what it means.
Banks are yanking existing credit, from companies that are making their payments but have reduced earnings (but are still paying on time) and demanding millions/billions from small businessmen right when we can't borrow from our houses and our remaining assets aren't worth crap either.
I know of two more businesses that are going to salvage (one is a 51 year old company) because the bank doesn't want paid, it wants it all at the bidding of our government.
DEFLATION in money held by us little folk is going to DECIMATE the country LONG before China demands 5%, or floods the world with a few trillion greenbacks.
Yes Sir; Mine has a nice little spring that flows year round. pretty important here where I'm @.
And the only thing missing is.... inflation. Especially after all that monetization this past year.
Right! The inflationists just don't appreciate the massive scale of credit shrinkage, asset and debt defaulting that is extinguishing money faster than they print it. And then the newly printed money goes straight to Wall Street to push assets and commodities back up. Meanwhile, how do you get inflation with such huge job losses and declining wages? Its impossible.
The one missing piece unaddressed is the velocity of money. We have had all of this huge printing over the past two and a half years, but the velocity of money has actually declined. That's why as of today, we have essentially no inflation.
You're thinking too much. Microeconomics worked pre 2008.
Inflation will happen from the outside. Default of USD will cause gov't to raise rates... balance of trade will demand payment in much higher value fiat (PM? or USD tied to gold?). External factors will drive up inflation.
Do you know how much of our food comes from outside the country? Go to WalMart and check out how much canned goods and staples come from Asia.
I agree with that. The way things are going, we may have to invent a new term: hyper-deflation. What do you think will happen when the bond market finally collapses? Every paper asset under the sun will be for sale. Then you will see what deflation really looks like.
Is it just my imagination or do all those calling for inflation have something to sell, like inflation related investments?
See shadowstats.com for a CPI reading based upon old methodologies.
Inflation in the things we need (tuition, food, healthcare), deflation in assets/wants (consumer goods, wages, etc.).
There is no direct correlation between prices and money supply. Food and energy prices are high due Asian demand.
Time to define your terms. What is inflation, an increase in prices or increase in money supply? Can't have it both ways.
Crazy talk brother,
It's both and you absolutely will have it both ways.
You can only have it both ways if you confuse the issues. Which also leads to a confused understanding.
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I agree.
Arguing about the textbook definition of inflation v deflation is a stupid waste of time.
We already HAVE both.
When Congress mandates that you MUST have insurance, and the cost of your insurance goes up 35% annually, yet your paycheck/earnings stagnate or shrink. You have both.
I truly could give a flip about these arguments, the truth is if my wages shrink and the cost of food, utilities and mandated insurance goes up, I quit buying anything except bare necessities. Also, if hyperinflation hits and my wages stay the same or barely move (historical precedence that this happens initially) and milk goes to $20 a gallon, I STILL have no money to spend on anything except necessities.
Either way it won't bode well for the American "consumer" economy.
Just like us Americans, stand arguing about how the fucking fire started while we do nothing to stop the house from burning down.