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Source link: http://archive.mises.org/9289/false-deflationary-fears-in-dangerous-inflationary-waters/

False Deflationary Fears in Dangerous Inflationary Waters

January 23, 2009 by

Listening to the media, the political pundits, and the majority of mainstream economists, you would have the impression that America is facing a severe deflation just around the corner.

In fact, what we face is the serious danger of rising prices due to a massive monetary expansion by the Federal Reserve.

I discuss this in a new article of mine, “False Deflationary Fears in Dangerous Inflationary Waters.”

The media and those mainstream economists are in a panic because the Consumer Price Index (CPI) declined by 0.7 percent in the month of December. And for the entire calender year of 2008, the CPI “only” increased by 0.1 percent.

Of course, falling or rising prices in general are not “deflation” or “inflation.” Such price movements are the effect of a preceding causal factor: changes in the quantity of money and credit. It is these underlying monetary changes that are “inflationary” or deflationary.”

Once we understand this, things are seen to be completely different. Between September and December of 2008, the Federal Reserve increased the Monetary Base by 95 percent. And at an annualized rate over period, M-1 has gone up by 40 percent and M-2 has grown by nearly 17.5 percent.

The Fed has created a tidal wave of monetary expansion. And if they were not to radically reverse the growth in the money supply they have created, signficantly rising prices will be facing the American consuming and taxpaying public the months and years to come.

There is a reason by economists like the French free marketeer, Jacque Rueff, long ago called our times the “age of inflation.”

Richard Ebeling


Paul January 23, 2009 at 12:24 pm

Yes, while I believe that dangerous period will eventually happen, it will happen later rather than sooner. First we have to face the fact that an enormous amount of debt is liquidating and an enormous amount has yet to be liquidated.

Paul January 23, 2009 at 12:34 pm

(continued from above)

Inflation also requires people to actually spend the money that was created. But what happens if people decide to continue to hoard that money rather than spend? The money goes nowhere. And that’s exactly what’s been happening. The psychology has suddenly shifted from people being reckless with their money, to the desire to keep it and pay off their debts.

Japan has had huge fiscal stimulous over the course of a decade and it has yet to feel any sort of inflationary tidal wave.

geoih January 23, 2009 at 12:44 pm

Will it ever be possible for us to get to a time where a drop in prices is considered good? This whole idea of surveying prices to determine the level of inflation or deflation is completely illogical.

You don’t have a cold because you have fever, you have a fever because you have a cold.

Neal W. January 23, 2009 at 2:19 pm

Changes in price are not always caused by changes in the quantity of money and credit. For example, if there were no change in money or credit, then you would have falling prices over time. Of course, I know you know that, I’m just being anal.

Mike Sproul January 23, 2009 at 4:53 pm


The value of paper money is equal to the value of the assets backing it, so if the Fed issues more money, but its assets grow in step with the money, there will be no inflation. Inflationary pressure is created when the Fed’s assets become insufficient to buy back the dollars it has issued.

Bruce Koerber January 23, 2009 at 7:20 pm

How long will it be before the deflationary effects (of a market correcting itself as part of the recessionary period) can no longer be tolerated by the biggest debtor in the world?

If productive resources are coercively channeled towards war efforts prices will no longer go down. And inflation, even at high rates, will be excused because of the ‘unusual’ circumstances requiring patriotic sacrifices!

This is the likely scenario if the ‘deflation-to-inflation’ time horizon is more than six months. That is why now is so critical. If we are fortunate enough – that the economic equilibrium forces are so powerful that they quickly overwhelm the dumbfounded unConstitutional coup despite their most imaginative intervention – then the window of opportunity will be opened for the liberty-minded to use all the educative means at their disposal to move forward the ideological change towards classical liberalism.

charleydan January 23, 2009 at 11:02 pm

One must understand that deflationary times can happen with inflationary times. Both simultaneously going on.

They call it disinflation.

How this works is inflation hits things of non-credit. Like food, clothing, household goods and etc. going up in price.

Deflation hits items of credit. Like housing and cars. Driving these prices down.

Thereby, inflation forces more spent on essentials of life. Requiring lower prices for credit items.

Thereby creating a greater demise or prolonged deflationary time when the two are fighting each other. Trying to get to the bottom of equilibrium.

Lucas M. Engelhardt January 24, 2009 at 4:03 pm


I think the Japan example is misplaced… mostly because the Bank of Japan created a bunch of reserves while prices were basically steady (dropping only slightly), and then decreased reserves VERY rapidly as soon as prices started increasing. So, they avoided the “inflationary tidal wave” by removing the money before it had much chance to impact prices.

However, that doesn’t mean that it didn’t have an impact. A major point in Austrian theory is that new money has a distortionary impact, even if the “price level” is not increasing when the new money is being created.


Last I checked, Federal Reserve Notes aren’t “backed” by anything, because no one can make the Federal Reserve redeem those notes for anything. So, even if the Fed is “backing” its money by buying assets, it is inflationary.

To demonstrate an extreme case: Say that the Fed decides that it is going to buy everything in the economy except for my watch (nonsense, I know), and hold everything as assets. They print the money, pay everyone for everything, except my watch.

Now, we have 300 million people with lots of cash, and the only asset they can buy with that cash is my watch. I’d bet that I get some pretty big offers for my watch… that is, prices on those assets remaining in the economy will go up.

FRNs appear on the Fed’s balance sheet as “liabilities”, but that’s just an accounting relic from gold standard days – when FRNs were actually redeemable (at least by some people). Now, they are not.

Investors times January 26, 2009 at 4:35 am

Deflation is generally a general decrease in the price level. And it is happening right now.

However two other forces are acting at the moment. Firstly The amount of dead or toxic assets that are present in the economy is uncertain at the moment. A lot of banks are hiding losses in the balance sheet so that in reality the amount of money in the banks is unknown.

Secondly the amount of money being printed by the governments around the world.These are being lent to banks. These banks are however hoarding the cash to cater for future losses and defaults. Thus decreasing the money supply and causing temporary deflation.

When the recession will reach its bottom the banks will start to lend again. My guess is that it is then that we will know if inflation will kick in or deflation will continue. We know the amount of new money being injected, but we don’t know the losses and bad debts of banks.

We will then know if all this “quantitative easing” has been a zero-sum game, increase or decrease the money supply. For me it is difficult to see.

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