Why Deflation Never Had a Chance. Lately we've been hearing a lot of talk about Kondratieff cycles, Elliot Wave super cycle, end of the world, deflation, deflation, deflation. What the deflationists fail to acknowledge is that in a purely fiat monetary system, deflation is a choice, not an inevitability. To put it in simple terms, if a government is willing to sacrifice its currency, there's absolutely no way deflation can take hold in a modern monetary system. It doesn't matter how large the debt contraction is – 10 trillion, 100 trillion, or 1,000 trillion – any government with a purely fiat currency can, with the stroke of a computer key, print enough money to wipe out the debt. Granted they'll destroy the currency by doing so, but at some point we're going to be faced with the choice of print or deflate. I have little doubt Ben Bernanke will choose to throw the dollar on the sacrificial altar. – Toby Conner/Minyanville
Dominant Social Theme: What is inflation? What is deflation? We don't want you to know. Don't worry about the definitions, just go out and find a job.
Free-Market Analysis: Issues of inflation and deflation did not seem so important earlier in the 2000s, but the inflation versus deflation debate has heated up lately. The above article that we have excerpted has attracted considerable attention on the blogosphere, maybe because it runs boldly counter to the perceived wisdom of the Internet alternative media, which is that deflation is rampant. Yes, the Internet's alternative hard-money press does seem to have generated a kind of dominant social theme all of its own: "Deflation will undo Western society, and will have destructive effects especially in America."
Dominant social themes as we use them are involved with power elite promotions, so to attribute a dominant social theme to the alternative news media of the Internet implies a similar mechanism that likely does not exist. It is important to make this distinction. There is a whole segment of the hard-money news community that analyzes inflation and deflation in ways that we would not, coming at these subjects from a free-market thinking, Austrian point of view. Let us call this point of view Deflationist. It is to some degree shared by the larger mainstream economic and media community.
What is the difference between the Deflationist point of view and our own? In the past, but we have not always been as clear as we should be because the elite itself has done such a good job of confusing the larger money-conversation. Inflation, for instance, according to the mainstream media, is a rise in prices. Deflation means falling prices. These are inaccurate descriptions and one can make the argument that they have simply evolved over time. But from our point of view, this is probably not accurate. The terminology has evolved in a specific way to take the onus off central banking and monetary manipulation. Even in the article excerpted above, we find a difference in terminology, though the article itself is very good and points out what we have pointed out in the past, that real deflation is hard to accomplish in a central banking fiat-money environment.
Deflation is a shrinkage of the money supply, though deflation is also involved with the slowing of monetary velocity (supply and demand). Thus merely to print new money does not guarantee inflation, or certainly not price inflation, unless it circulates. Inflation is therefore an expansion of the money supply (bank credit). A corollary to this is that money is not merely credit. The mainstream media and modern economists, including central bankers, have blurred the definition of money by including secondary credit (credit card companies, etc.).
It helps of course to think of money as gold and silver. This is the crux of the problem. The powers-that-be don't want people returning to this fundamental understanding of money and thus all sorts of fuzzy concepts about money have been advanced. Inflation is perhaps easier to understand in a fiat-money environment because it is simply money printed and injected into the economy by a central bank via the distribution mechanism of commercial banks. Of course an added element of inflation is circulation of money.
The article we have excerpted makes the good point (that we too have made many times before) which is that if central banks really wanted to counteract "deflation" central banks would simply find a way to get money into the hands of individuals. The article suggests this can be done via tax cuts. But we would suggest that the most effective way to re-inflate the economy in America and Europe would be simply to add, say, US$10,000 to individual checking and savings accounts, because that is money people probably would use immediately. But central banks would never do such a thing because as soon as they did, people would realize that the central bankers print the stuff from thin air and give it out as they choose.
This is why central bankers make such a fetish of commercial bank distribution as if this were somehow the only way that money can be issued in to the economy. All of the strange, indecipherable talk about quantitative easing and differing kinds of money supplies is really besides the point. Central bankers print money and nothing stops them from distributing it any way they like. (They choose not to give it to individual citizens because that strip away the mystery and cause them to lose control, besides.)
In any event, let us return to deflation, which is a slightly more complicated matter than inflation. Deflation, as the article points out, is not a very practical matter in the current fiat money environment. That is because there are few ways to take money OUT of circulation. This means the money supply does not easily shrink.
It is because in a fiat money environment there can likely be little deflation in terms of the money supply that we take issue with some of our alternative-news Internet bretheren (with the exception really of the Mises Intitute and a few other places) who write ably and fluidly about "deflation." Debt contraction, just for the record, is not deflation either. If you forgive a debt, you are not necessarily receiving MONEY. You are releasing an obligation. But given that there is so much debt in the West today, even once money starts to circulate with more velocity consumer and business debt will act as a brake.
We hope this little essay, which repeats points that we have made before, contributes to clarity about money. The powers-that-be have done everything they can in our view (including inventing at least three separate definitions of money) to confuse things. But money is simple stuff. It comes from the ground and circulates as gold and silver through the economy. In an inflation there is more circulating money with more velocity (demand). In a deflation, less. For the most part, we can conclude that deflation is a shrinking of the money supply plus a slowdown of monetary demand. And as the article points outs in a fiat-money environment, real deflation is far less likely than inflation, and price inflation.