Posted on 01/07/2015 5:55:13 AM PST by blam
Trillions of dollars are destroyed when it is malinvested.
Central Banks make money to cheap via low interest rates, people borrow the cheap money and then invest in overpriced homes and stocks. When the market drops and they can’t repay the loans, the money is gone.
Boom/Bust cycle. The bust is deflation.
Reducing the rate of inflation, i.e., how fast prices rise, is not bad. Even a reasonable amount of actual deflation (drop in prices) is not bad. But think about what happens when prices deflate rapidly... Why would you buy that car or dishwasher or house if you know that next month it will be significantly cheaper? You may be in a bind where you simply have to do it, but if you can wait, you will, and then essentially all economic activity will cease. At least that's the thought, and it seems to make sense to me. But I'm not an economist.
“Isn’t most money out there just numbers in a computer? When stock values go down, or some entity holding value goes bust, that perceived value evaporates.”
Yes, but those numbers in a computer stored in bank accounts is backed by the treasury’s physical currency. In order for deflation to occur banks would have to hit the delete key and physically reduce account reserves/balances.
I'm not sure that's actually true.
I think of deflation as being like the stern of the Titanic tilting up before it all plunges under the waves. Sure, we're getting farther from the water, but not for long.
I like the analogy.
Supply and demand will always fluctuate, so prices will, too. It's not the normal rise and fall of prices we need to worry about. It's the collapse of prices for things that we don't need immediately that will cause the problem. If people can put off a purchase because they know the price will be lower a month from now, or even tomorrow, they will, and that will slow economic activity. But for things like food and energy, there will always be an immediate need that can't be postponed and people will pay the price of the day, if they can.
While the price of oil has collapsed, there are two reasons I can quickly think of why that alone is not necessarily a harbinger of a full-on deflationary cycle:
That being said, if cheap energy leads to significantly cheaper goods and services, the purchase of which can be postponed, then it could lead to true deflation. But even then, shutting of the oil spigot would prop up the price. Even in a deflationary cycle, people need energy NOW. They can't wait a month or 6 months.
The last time I bought a MacDonalds’s 1/4 pounder with cheese it was $2.30. That was about 6-7 years ago. Today when I bought one it was $4.46. I will probably purchase Dollar menu items from now on.
“Central Banks make money to cheap via low interest rates, people borrow the cheap money and then invest in overpriced homes and stocks. When the market drops and they can’t repay the loans, the money is gone.
Boom/Bust cycle. The bust is deflation.”
Except the money is never gone. It was transferred to the seller and either sits in the sellers bank account to be loaned again or is spent into the economy. When the Fed tightens credit and reduces lending interest payments on old loans still continue but without further lending this causes money to be pulled from the economy. Money then builds up in the reserves of Federal reserve banks as loans are paid back. So money has shifted out of the economy into reserve accounts at Fed banks creating the illusion of deflation when economic activity diminishes. The money still exists though.
Deflation is a market mechanism. It’s telling you something. Prices are too high and cannot be supported at current supply-demand levels. Government spending just makes the situation worse. Prices, like water, seek their own level.
Outside of government intervention, there is no period of permanent deflationary spirals in United States’ history. In the short run let prices fall.
The permanent cure is multiple competing currencies and a return to bank clearing houses.
Why can’t that happen? Don’t blame the banks. Blame local, county and state governments that live off of property taxes. If properties were allowed to fall to their true level, every one of those entities would be bankrupt. Driven mainly by pensions.
The market system is talking to us. Deflation happens for a reason. We need to listen.
Because you need it now and its value to you is more than the money you’re paying. There isn’t a market driven deflationary spiral in America’s entire history.
What is a full-on deflationary cycle and what causes it?
Exactly. The official (and targeted) inflation rate of 2% or so has long been below the actual rate. Letting what’s gone up so much go down a bit is not a bad thing. We’re not near any sort of irrecoverable deflation spiral.
"Nobody is disputing what pushed inflation over the zero mark. It's the decline in oil prices"
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