Inflation or Deflation? A must read article - Aussie Stock Forums

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  1. #1

    Default Inflation or Deflation? A must read article

    I'm going to start a new thread on what we should be expecting over the next few years as the GFC continues to unfold.

    Up until recently, I was a firm believer that some sort of high inflation crisis (perhaps not hyperinflation) will hit US and other developed countries as the amount of money currently being thrown into the economy has been unprecedented from a historic perspective. There is a mainstream believe amoung the inflationists (yes, pure Austrian economists) that all these money being "printed" to pay for these stimulus will eventually cause inflation, and therefore, the best hedge against such crisis would be to buy gold/silver. Evidence to support such a thesis was the massive increase in base money supply measured by official date such as M0.

    But on the other side, we have those from the deflationist camp who would argue that while the money supply has certainly increased, the amount of money being circulated in the economy necessary to cause inflation has actually contracted. This was because banks were hoarding the cash given by the bailout funds and most stimulus packages received directly by the public were used to pay down debt or to save. This is another reason why most Keynasium inspired economists (i.e. government advisers) would argue that it is imperative for people to borrow and spend even more so a depression could be avoided.

    But who is right?

    Now here is the article that I would like to everyone to read. It has certainly enlightened me despite the fact that I have read so many "analyst" articles (from both inflationists and deflationists, though mainly inflationists) in the past.


    Mike Shedlock has for the first time (not sure on this one) supported Steve Keen's analysis on the critical role of credit in affecting how money supply should be interepted.

    I suggest everyone should give it a good read and also read what Steve Keen's has posted recently on his blog.

    Basically, he concludes that we will more likely head for a Japanese style deflation than a massive great depression. And that there are simply too much bad debt in the system to be cleared and it really relies on the will of the politicans and central banks to "print" enough money to counter the deflationary trend.

    What about gold? I have already mentioned it in the gold thread and I still believe that gold MAY be a good hedge because of the fear factor. Of course, there is no guarantee that this may be true.

    The only fact is that we are in unchared water, and there is little historic evidence to prove that gold prices would remained depressed if the world falls into another great depression.

    Let's discuss.

  2. #2

    Default Re: Inflation or Deflation? A must read article.

    To help understand what is going on you need to go to business spectator and in the search panel type in Weimar defence. This explains why Ben Bernake who is an expert on the hyperinflation of the weimar republic and the deflation of Japan belives that hyperinflation can be avoided in this situation

  3. #3

    Default Re: Inflation or Deflation? A must read article.

    The way i see it is this. Either hyperinflation, deflation or a return to normality can occur. It depends solely on government actions at this stage and how far they take them. Most people are discounting return to normality in their decisions but there is a probability of it happening.

    Everything of course could happen on a time lag. When a fall in the market is reached and confidence returns that would be the time to start buying commodities. Deflation first, then inflation. The only unknown being of course is when it occurs being years or decades.

    Admittely I see house propping as one thing that may keep Australia at the status quo - with all the problems associated with the boom distortions including housing affordability, entrenched wealth, and wage rises for basic infrastructure workers while the rest get left with little.

    Inflation even hyperinflation doesn't need to be for all goods - it can cause another bubble. We could keep exporting our inflation overseas to China and those workers, but still see huge asset bubbles. People forget inflation in the last few years has favored assets over consumer goods which is why people have perceived themselves wealthier - inflation can be unevenly distributed depending on where the credit first ends up.

    Trying to come up with an investment portfolio to hedge against these extremes properly - the best thing would be an allocation of metals/energy and cash imo.

  4. #4

    Default Re: Inflation or Deflation? A must read article.

    Really liked this analogy of why printing won't necessarily cause inflation.


    Magical Printing Press

    Assume for a moment you invent a magical printing press. Your machine can print hundred dollar bills so good that the US Treasury cannot distinguish them them from the real thing. The bills are perfect in every way. Now assume you print $5 trillion worth of those bills and bury them in your back yard. Is this inflation? Surely not. Would it be inflation if $5 trillion in bills were spent and entered the economy? You bet. The key then is not how much the Fed prints, the key is how much of that money makes its way into the economy.

  5. #5

    Default Re: Inflation or Deflation? A must read article.

    A good/must read from a sort of forgotten economist.

    How pertinent ?



  6. #6

    Default Re: Inflation or Deflation? A must read article.

    Lisk that is exactly Benakes arguement he believers he can remove the money from the system once it has caused the banking system to work again and before it affects inflation. Will it work I dont know Has it been tried before not that I can find out. This probbaly makes Ben Bernake the most important man on the planet atm

  7. #7

    Default Re: Inflation or Deflation? A must read article.

    Hi guys,

    Mish rocks, and is generally smack bang on the money.

    We must however, consider the bailout plan. Mish has dubbed this "fiscal insanity virus" (for which he prescribes gold as the cure), but still plays the deflation card often, so not sure what to make of his opinion right now.

    What I mean is, TARP2 or whatever it's called will be financed largely by creation of a large amount of T-bills. They are even reintroducing the 7 year bond for the first time since 1993!

    How will this play out? No idea. But will demand for Treasuries still exist after the market is flooded with $1tr of them? Also, other forms of debt (municipal bonds, USD corporate bonds, etc) will now have to compete with all this new debt.

    The Fed has already begun monetising (relatively) small amounts of Treasuries in the order of $10bn to keep the yield as low as possible. If demand for the new $1tr of debt does not eventuate quickly, there will be both a rock and a hard place. Yields will spike (prices drop) on the market when the flood of new debt hits, and the Fed will have to try and control this somehow, but if they buy back any debt at this point they will only be monetising what they just created.

    This will be inflationary. Again, Mish has recognised this and dubbed it "fiscal insanity virus", so not exactly sure what to make of it all.
    Disclosure: Long cash, gold, stocks.

  8. #8

    Default Re: Inflation or Deflation? A must read article.

    trouble is what do we use to measure inflation if we use all goods and assets or just assets or just goods
    Some measures would have us with really low inflation for years but if we include land and property it is probably quite high some years and almost negative in others and over the years has gone negative for instance the falls in some RE in 90-92 would have given a negative reading with some property falling as much as 45% (not all some did not appear to fall at all) 73-74 plenty of falls over 25% and in 80-82 again some large falls.
    This run up has not been normal more like bubble or mania (which are always retraced) made possible by credit inflation not the printing of money IMO so when the credit is destroyed it will cause deflation and the printing presses
    wont help unless banks are willing to lend or borrowers are willing to borrow
    I think we are being given a great oppurtunity to watch and learn from what is happening elsewhere as we are sometime behind America in the cycle and when China and India start coming out of there slowdown we will have a market for some of our commodities albeit at reduced prices. but it may be enough to stabilise our economy a bit unless the government panics as it is doing now
    Last edited by joeyr46; 22nd-February-2009 at 12:48 PM. Reason: Word spelled wrong that changed meaning

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