The Myth of Contemporary DeflationSubmitted by akak on Fri, 01/01/2010 - 18:48
I wonder how many others are getting fed up with all the hysterical and ridiculous talk and hyping of the threat of "deflation" that we keep hearing in the media lately. The more I have pondered over this issue, the more I have come to realize that those who espouse the idea that we are experiencing deflation, or threatened by deflation, are either the victims of misunderstanding, ignorance, and hopelessly muddled terminology, or else purposeful propagators of misinformation.
It seems to me that most of those who continue to scare us with the boogeyman of "deflation" are using a vastly overbroad and misleading definition of deflation, namely, that deflation is merely a fall in price or prices ---- of anything. Yet this is not only an economically incorrect viewpoint, it is so all-encompassing as to be almost meaningless. Let me offer my definition of deflation, that which is not only the classic historical definition, but which takes into account both Austrian monetary theory and the former colloquial understanding: Deflation is a decrease in the money supply, leading to a fall in the general price level.
Notice the key idea: a fall in the general price level, or in the "cost of living", if one prefers. By this definition of deflation, which I consider the only valid and useful one, the collapse of a particular asset bubble, such as in real estate and equities recently, has nothing necessarily to do with deflation at all. Only when prices across the board see a decline can we be seeing any real deflation. This simply makes common sense, as inflation has been long defined by the exact converse situation, an increase in the money supply leading to an increase in the general price level. By the widespread current and incorrect definition, focusing on particular asset classes, one could also simplistically (and erroneously) say that due to the falling price of computers and electronics in the 1990s and 2000s, we were therefore experiencing deflation, yet everyone knows that such an argument would be ludicrous. And curiously, I know of nobody who tried to argue that due to the falling price of gold and silver during the first half of that same time period, we were therefore somehow experiencing deflation then as well. Yet today, with the recent (and most likely ongoing) collapse of two obvious asset bubbles, in real estate and stocks, we are somehow supposed to accept that deflation is happening today.
Deflationists seem further muddled when it comes to the topic of credit and debt. They like to imply or outright assert that since overall private credit is falling in the USA right now, that that is somehow "deflationary". This demonstrates a profoundly confused understanding of just what money actually is. Yes, it is true, under our current fiat monetary system, all (fiat) money is issued as debt, so in that sense, money is debt (or credit, depending on one's point of view). However, the key mistake they then make is assuming the converse: that all debt is somehow also money. This is WRONG! It is absurd to assume that since our money is debt, then somehow all debt is money. To believe that our economy faces deflation due to contracting credit, one must also hold that our economy was experiencing rapid and unprecedented inflation during the whole prior period when credit was expanding --- and this is and was demonstrably not the case.
For example, overall credit in the US economy more than doubled in the period from 2000 to 2008. Did we therefore experience a more than 100% increase in the overall price level (colloquially defined "inflation") during that period? NO! In fact, if deflationists want to lump the actual money supply in with total credit to determine and define deflation, then they have to do the same to define inflation, and by that rationale the overall price level should have increased by more than 13 times since 1980 alone, when in fact it increased by around a factor of 3.
Latter-day deflationists also have the small problem that there is not ONE historical example of the threat they keep trying to warn us about. Japan in the 1990's and 2000s is often held up as the classic (and really, only) example of recent deflation, but again, this is simply incorrect. Like us today, Japan experienced a collapse in several overblown asset bubbles, notably in real estate and equities, both of which collapses, it must be noted, were significantly more severe than the current corresponding collapses in the USA. Yet even in this case, the Japanese never experienced a declining general price level, save for a very slight one of around 1% for a single year. Some "deflationary threat"! Yes, even during their so-called "deflation", prices outside of the collapsing asset bubbles continued to increase, and continue to do so today.
It should be noted that deflation CAN exist in an economy, and has been seen in the past --- but only under a non-fiat (i.e., "hard") monetary system, one backed by gold and silver. The USA experienced significant deflation in the period of 1929-1933, which incidentally ended almost to the day that Roosevelt took us off the gold standard. Overall deflation was also experienced in the period of the 1870s to the 1900s, as economic output increased faster than the (gold) money supply, leading to generally falling prices. Notice that this last, roughly 30 year interval coincided with the single greatest period of economic expansion in US history --- so much for the "economic threat" of even true deflation!
I think the widespread current talk about deflation is a red herring at best, and purposeful establishment propaganda at worst. As always, the REAL threat to the savings and livelihood of the average citizen during a time of rampant governmental overspending and overborrowing is currency depreciation and price inflation, NOT the opposite, as has been demonstrated by innumerable historical examples. It is inflation, not deflation, which is also the much more insidious process, as it penalizes and impedes long-term planning, saving and thrift. I am convinced that it is largely due to the last 40 or 50 years of inflationary policy that we have become an increasingly irresponsible society focused on short-term thinking, willfully neglecting the long-term ramifications of both our personal financial decisions and those of public policy --- "what's in it for me now?" is the basis on which most people act and vote. Such widespread societal and personal irresponsibility has been noted by historians during similar inflationary periods, such as in the latter Roman Empire, 16th and 17th century Spain and Portugal, and Weimar Germany. It is through inflation that wealth is funneled from the average man to the well-connected political and financial elites, which is why they love to propagandize in favor of inflation, and against deflation, which in contrast rewards savers and penalizes debtors, and governments most of all, they being the largest debtors in the modern era.
I am much more scared of Bigfoot and alien abduction than I am of an appreciating fiat dollar riding in on a unicorn!