Inflation Or Deflation – End Result Is Still Depression

INFLATION OR DEFLATION 

The debate continues but not much has been said that clarifies the issue for ordinary  investors. What follows in this article should help.

Inflation is the debasement of money by government and central banks. The Federal Reserve and all central banks practice inflation by expanding the supply of money and credit continuously and intentionally.  

This debasement of the money results in effects that are harmful and unpredictable. One of these effects of inflation is an unquantifiable loss of purchasing power in the money itself.

The prices you pay today for most goods and services are higher than ten years ago, twenty years ago, etc. This erosion of value has  continued to the point that the US dollar has lost ninety-nine percent of its purchasing power over the past century.

In other words, it takes one hundred dollars today to purchase the comparable equivalent of goods and services that could have been purchased one hundred years ago for one dollar.

Deflation is the exact opposite of inflation and is characterized by a contraction in the supply of money. Hence, each remaining unit of money becomes more valuable. The primary effect of deflation is an increase in purchasing power of the money.

The increase in purchasing power means you can buy more with your money – not less; and   the prices for most goods and services will decline.

WHAT CAUSES DEFLATION?

We know that governments cause inflation and pursue it for their own selfish reasons.  A government does not voluntarily stop inflating its currency; and it certainly isn’t going to actively reduce the total supply of money. So what causes deflation?

Governments – and central banks – cause deflation, too.  Although deflation isn’t a normal practice of governments, its occurrence is the result of previous inflation effects  which are unsupportable:

Deflation happens when a monetary system can no longer sustain the price levels which have been elevated artificially and excessively. (I think this is where we are now.)

Governments love the inflation they create. But with even more fervor, they hate deflation. And not because of any perceived negative effects on their citizens. It is because the government loses control over the system which supports its own ability to function.

WHAT TO EXPECT FROM DEFLATION

Regardless of the Fed’s attempts to avoid it, deflation is a very real possibility. An implosion of the debt pyramid and a destruction of credit would cause a settling of price levels for everything (stocks, real estate, commodities, etc.) worldwide at anywhere from 50-90 percent less than currently.  It would translate to a very strong US dollar.

Those who hold US dollars would find that their purchasing power had increased. The US dollar would actually buy more, not less. But the supply of US dollars would be significantly less. This is true deflation, and it is the exact opposite of inflation.

The most severe effects would be felt in the credit markets and in any assets whose value is primarily determined and supported by the supply of credit available. Things would be much worse than what was experienced in 2007-08.

The biggest difference would be that the changes would result in  depression-like conditions on a scale most of us can’t imagine. And the depression would last for years.

Imagine that groceries, gasoline, and house rent cost half of what you now spend.  Whatever cash you have, or is available to you, would buy twice as much. You would have money available for other things.  Deflation, itself, is not a bad thing.

Unfortunately, depressed economic conditions would make life for most of us nearly unbearable. You might not have a job. Or you might live in an area which experiences social unrest. Also, there could be disruptions in transportation and the orderly supply and delivery of various goods and services. (Sound familiar?)

RISK OF HYPERINFLATION 

Sometimes the effects of inflation are hugely exacerbated and lead to “out-of-control general price increases in an economy”. This is referred to as hyperinflation or runaway inflation. It results from a collapse in purchasing power and the disinclination to use or accept the money in circulation. In some cases, the ‘money’ becomes worthless.

Hyperinflation is unlikely, though, for two reasons:

1) Fed Inflation Is Losing Its Intended Effect:  Recent upticks notwithstanding, the CPI rate been trending down for more than forty years and the effects of inflation are not meeting expectations.

2)  Fed Inflation Is Fueled By Cheap Credit:  Dependence on cheap credit has increased the vulnerability of our financial system. The risk of a multi-asset price collapse is greater today than any risk associated with hyperinflation.

RECENT HIGHER CPI NUMBERS 

Recent increases in the Consumer Price Index have convinced some that the effects of inflation are back in a big way and that much higher prices can be expected for quite some time. That is not necessarily so.

The last time the CPI exceeded 5% on an annual basis was thirty years ago, in 1990. Prior to that it was under 5% for eight consecutive years. Twice (1981, 1990) in the past forty years, the CPI exceeded 5% and both times it was followed by many years at rates significantly under that level. (see

Also, it is important to recognize that a goodly portion of the recent uptick in the CPI rate is not associated with the effects of inflation:

“The current share of rising prices resulting from…supply chain bottlenecks and pent-up demand, etc. have nothing to do with inflation or its effects and are a totally separate factor in price changes for various goods and services.”  (see It’s Not Biden’s Inflation)

INFLATION ALWAYS ENDS IN DEPRESSION

Historically speaking, periods of entrenched inflation always end in economic collapse. There are many examples of ridiculously high inflation rates which ended at dramatically lower levels after a collapse.

An economic collapse can happen either with, or without, experiencing hyperinflation.

A credit collapse such as occurred in 2008 is an overnight risk that heightens with each passing day; and we saw last year how quickly all financial assets (including so-called “inflation hedges”) can drop in price by one-third or more.

Regardless of whether we experience hyperinflation or not, a credit collapse now or later, or further attempts to circumvent impending catastrophe – a full-scale depression will be the end result.

(also see: Inflation, What It Is, What It Isn’t… and The End Of Inflation?)

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