The Austrian School of Economics says that deflation is a contraction of money supply.

excellent.......

A prudent man foresees the difficulties ahead and prepares for them; the simpleton goes blindly on and suffers the consequences. Proverbs 22:3

I’m glad you brought up the point concerning “base money” under a fiat regime since it is extremely important in our understanding of the mechanics of both inflation and deflation. Under sound money regimes there is a definite expansion and contraction, both of a physical nature however, as you stated we are not under such physical restraints, thus there are other mechanisms which must be considered when speaking about either inflation or deflation within a fiat regime.

As I have stated on numerous occasions, there is a huge amount of difference between the mechanisms of sound money and fiat money, the entire economic systems are based on totally difference mechanisms although the principles of economics remain the same in both systems because either sound or fiat money must operate within economic parameters regardless of the unit make-up. Now, that does not mean they are the same or produce the same results over a long protracted economic chart of events because they produce quite striking differences. I have also stated in other posts that it is impossible to compare the deflationary Great Depression with anything that could or will happen under a total fiat regime. There is a good reason for that; that being we live under a completely different type of economy world than that of the 20s and 30s, indeed even that of the 70s.

While we have grown accustom to the idea that fiat money is simply debt, which it most certainly is, there is however, much more to it than that because it is used and thought of as real money, as an asset, when in fact it is a double liability. Gold and silver, on the other hand, when used as money is a double asset.

Since we have been subjected to a massive inflation of the currency, both mixed and fiat, for the last 95 years, it is virtually impossible to fully grasp the economic world in which we actually live and function. Fiat money is based and can only be based upon a continual inflation of supply; this is especially true when, given time, the actual purchase quality of the monetary unity loses its potency to function properly as a monetary economic unit. In other words, since each monetary unit is debased in purchase value while retaining the same face value, there is the illusion that it is still functioning as though it’s face value and purchase value were at par, when just the opposite is true.

Inflation and deflation are based on either expansion or contraction of the supply of money, whether that money is physical or digital, fiat or sound. However, due to the very nature of fiat currency there is a propensity for inflation since it relies almost completely upon inflation of the money supply to adequately function within the manipulated economic arena of both government and central banking interventions. If it were simply a question of fiat money being based solely upon debt for its absolute creation/function then we would not be raising questions of either inflation or deflation in economic terms, but since it is not that simple such questions must and should arise. There are numerous factors involved with the manipulation of both the money and the overall economy under a fiat regime which normally, and more times than not, plays out with an inflationary event instead of a deflationary event.

Deflation, especially under a fiat regime, is rare; once again due to the nature of fiat currency and the propensity of governments/central banks to inflate. The primary beneficiaries of fiat currencies are governments, central banks and those closely connected with those institutions. As such, those institutions are willing to take extraordinary measures to ensure a continuation of bubble economies; indeed we have seen such measures being taken over the last couple of years. The monetary “base” or whatever we call it has been drastically expanded and while the results of such expansion is not readily seen at the moment, the efforts of this government/central bank to accelerate the re-inflation of a deflating bubble will have extremely detrimental effects on all of us.

The interesting thing is that we have seen, due to various factors, both inflation and deflation in several sectors of the economy over the last couple of years, but that is changing and inflation is, despite “official government numbers” becoming viral while wages are stagnating and consumerism, based on credit, is contracting. A little less than a year ago I could, for instance, buy a block of Feta Cheese for $2.94, today that very same block is priced at $6.45…does that spell out inflation? Not necessarily since there are numerous factors involved with pricing, but it is indicative that there is an inflationary pressure along the production line for such cheese. Likewise, there are numerous factors involved with the depression of pricing in certain sectors, most of which are due to massive malinvestments within those sectors, such as housing, automobiles.

In the short-term we will continue to seek a mixture of both inflation and deflation within different sectors of the economy. There has not been a generalized deflationary event or inflationary event at this point however, since the propensity of the government and central bank are to inflate and they are inflating at a rate that is truly massive, the likelihood of deflation under a fiat regime will remain extremely slim until this final inflationary bubble enters various stages of collapse, finally resulting in economic chaos, at which point any discussion of either inflation or deflation will simply be moot. There is an enormous misallocation of resources taking place in this and other countries and have been for decades, but it has now come to a tipping point where the economic substructure can no longer sustain or resist the pressures of such misallocation, redistribution and monetary expansion.

Post Script:

It is interesting and should definitely be noted that the most vocal proponent of the dangers of deflation are the central bankers themselves...ever thought why? The answer is not the commonly held view and I will expound on that thought later in another post.

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“There is danger from all men. The only maxim of a free government ought to be to trust no man living with power to endanger the public liberty.”-Adams

My next question.
We haven't really seen more money in the system, what we have is the government replacing the individual in the credit market and borrowing from the Fed, which lends it to banks who lend it. But it can be removed since it will have to be paid back.
If the government were to print without borrowing, then that leads to hyperinflation.
That is the risk and will happen when individuals stop buying and holding government treasury notes.
grant

Actually, the government, via the FED, does have the power to break this “log-jam” since the FED has provided, to the delight of the vast majority of commercial banks, a virtual “risk-free” way for the banks to make money without actual lending. The commercial banks in this country have increased their “reserves” nearly 20-fold over the last couple of years thanks solely to the FED’s monetary policies. It has provided these banks with the ability to “park” these monies in their FED reserve accounts at a rate of interest that provides them with a handsome income without the risks normally associated with lending those reserves. No, the “log-jam” is a result of several factors, primarily that of monetary policies that created massive misallocations of capital into malinvestments of a bubble economy. The FED is a Pro at directing the mood and psychology of market participants and has been doing it successfully for decades, of which the housing market is a prime example. The FED operates within the realm of herd mentality and does it very well; the results of such manipulations can be seen since the early 20s and throughout the subsequent decades of bubbles and busts. The “crowd” is eager to jump on the next bubble ride and the FED is doing their part, a part they are extremely experienced in, to make sure that the “crowd” follows the same well-beaten path they have always followed before.

We have not seen a contraction of the supply of money only of the availability of credit, that relates, once again, to my initial point about the FED reserve accounts of commercial banks and not to either a mass aversion to either credit or debt, or the desire of the “crowd” to continue borrowing; indeed in such an economy there is an absolute necessity of such borrowing due to the fact that most people cannot live within their means, although more and more are attempting to do so due to the “scarcity” of credit and a prevalent fear produced by a distortion of information in the markets.

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“There is danger from all men. The only maxim of a free government ought to be to trust no man living with power to endanger the public liberty.”-Adams

There will be yet another central bank driven speculative bubble [it actually began before this latest economic dislocation presented itself] it’s not hard to spot. The problem is that once a central bank embarks on the road of Quantitative Easing is becomes extremely difficult to reverse course. In fact, artificial interest manipulation has created a massive distortion in the market, one so skewed that the normal division of labor is on the verge of breaking down; there is simply no adequate and trusty information on which to make business decisions. The quality of risk has become foggy and when risk becomes foggy there are few willing to take risk normally associated with decision-making.

Carry Trade is nothing more than an export on credit scheme used to manipulate debt in a way that waters down risks and increase profits, but there again, it quickly becomes a distortion within the market and distortions are very dangerous. What happened in Japan was that it allowed for dysfunctional debt to be carried by the Bank of Japan and it became easy to borrow Yen from the Bank of Japan while buying higher yield dollar denominated paper. Of course, a positive carry trade can only exist when the currency risk between the US Dollar and the Yen is naked. Likewise, the same would be true of a Dollar Carry Trade system. There is, of course, always a real danger in any naked trade whether it is currency, stocks, futures, etc.

Prior to 1929, there was a similar carry trade between US/Germany and it contributed to the crash in some very interesting ways. Most countries embark on a carry trade to shift inherent instability from their economy to another. Of course, such carry trades tend to lend a great deal of liquidity to the markets of the world and are therefore hard to resist…that is until lower yielding currency appreciates in value then there can be obvious trouble.

Since savings are no longer a prerequisite to credit expansion, there is an unnatural demand created for debt. Apparently, it appears that most people, especially in this country, thought that there was an infinite supply of credit and the credit creation machine ran on perpetual motion; they saw no end in sight. All credit assessments must rely on the capital to support the loan and the ability of repayment, both of those fundamental principles are distorted in the artificial market as administered by the central banks of the world. Now, the governments of the world have stepped in and even the necessity to liquidate bad assets has been distorted, thus we have a major moral hazard that has been created and is expanding.

http://www.1776solution.b...

“There is danger from all men. The only maxim of a free government ought to be to trust no man living with power to endanger the public liberty.”-Adams

My new bride and I have spent the last 8 months preparing our refuge from the storm, thus my absence was due to all the extremely hard work in making such preparations. Good to be back, thank you!

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“There is danger from all men. The only maxim of a free government ought to be to trust no man living with power to endanger the public liberty.”-Adams

Exactly right. Who cares that the price of houses or yachts or Mercedes-Benzes are dropping when the money in circulation is rising and pushing up the prices of the things people are actually buying? Food, energy, commodities and the like. Credit is only a monetary statistic for the things which people are willing to go into debt for. If no one is borrowing and the banks don't want to lend, then credit contraction is not a destruction of the money supply. But, if the Fed continues to try and reflate the asset bubbles by printing more money, in effect replacing lost credit with money, then that's real inflation.

The Fed keeps pushing more money into the banks both directly and through the interest paid on excess reserves. They can't recall those reserves (contrary to their jawboning) without destroying the balance sheets of the banks and the banks can't sit on those reserves forever b/c they have expenses which zero-bound interest rates are not covering, namely their depositors.

Hyperinflation is a potential. But, the money masters are not stupid, they know, or think they know, how far they can push this and only incite sincere inflation (10-30%) while still keeping their power base intact. I'm not convinced they're that smart, but I know they aren't completely stupid either.

Either way, you buy gold and you hold onto it. B/c in all scenarios gold will outperform the dollar or any other fiat currency for the near future.

If you disagree, put your money where your mouth is and buy 30 year T-Bills at 4.4% Seriously. Do you honestly believe US T-Bills are underpriced? If you believe the deflation argument, then yes you do. 0.36% on 1 year money. Gold has to move $2 higher or lower to get you that kind of return.

Ta,

The amount of global monetary stimulus thrown at curing the deflation problem is staggering, yet here we are with the same debt overhang ... no jobs and no way to pay of the debt. Deflation looms larger than ever because of Central Bank efforts to fight it. Why is that so hard to understand?

but not before we are destroyed by deflation...

inflation is the least of your worries....

you keep bringing up printing money...

Here’s Mish, from 2008, making clear the limitations of money printing in an attempt to prevent deflation in a fiat regime:

”Although Japan was rapidly printing money, a destruction of credit was happening at a far greater pace. There was an overall contraction of credit in Japan for close to 5 consecutive years. Property values plunged for 18 consecutive years. The stock market plunged from 40,000 to 7,000. Cash was hoarded and the velocity of money collapsed.

These are classic symptoms of deflation that a proper definition incorporating both money supply and credit would readily catch. Those looking at consumer prices or monetary injections by the bank of Japan were far off the mark. Yes, there was deflation in Japan. Furthermore, if deflation can happen in Japan, then there is no reason why it cannot happen in the US as well.”