Deflation and Bitcoin, the last word on this forum

[Roger_Murdock]

One follow-up to the above post: my guess is that some people would object to that "assuming a constant money supply."  They'd say that deflation isn't necessarily the result of economic growth (increased demand for dollars), it could also be the result of a contraction in the money supply because a big chunk of the money supply is really debt. (That's at least the case with a fractional reserve banking system.  Could someone smarter than I am explain why we would or would not expect a fractional reserve banking system to develop with Bitcoin?) Large-scale debt defaults can cause deflation.  And that deflation and those defaults in turn cause more defaults and thus more deflation, i.e. the dreaded "deflationary spiral."  But it seems like any such deflationary spiral would be self-limiting.  There's a floor to how much the money supply can contract (there's only so much debt that can be liquidated).  And it doesn't seem like deflation should prevent economically productive activity from occurring.  Here's an argument from Doug French that seems compelling:

Profits are the difference between the price we sell a good for and the price it costs to produce that good. As Jörg Guido Hülsmann makes clear in his book Deflation & Liberty, "In a deflation, both sets of prices drop, and as a consequence for-profit production can go on."

And while asset values may drop, the assets don't go away. The real wealth of the nation — assets used for production — are still available to produce. However, it may be that because the debt is liquidated on those assets as prices fall, new owners will own and operate the assets, but commerce and production will certainly carry on.

My admittedly-hazy understanding is that if deflation of this type is "trying" to occur there's a reason for it.  It's a sign that there is too much debt in the economy or too much bad debt, and a correction needs to occur.  Also, that section I bolded seems kind of important. The people who will be hurt by deflation are those that borrowed too much. Of course, if those people include the government (they're a pretty big borrower, no?) and politically well-connected banks and corporations, they might use their influence to try and stave off such a correction via manipulation of the money supply.  Heck, they'd probably even go to great lengths to try and convince us all that "deflation is bad" and "a little bit of inflation is good"...

Again, I'm really trying to understand this so I'd love some feedback.  

[molecular]

Ok, now someone explain why I'm wrong and Krugman is a genius.

I wont go as far as saying you're a genius, but compared to Krugman... Joke aside: I cannot find any flaws in your reasoning (although I am of your opinion on this matter, so maybe I didn't look hard) and I think your examples are awesome. So someone else will have to do the explaining why Krugman is a genius, I certainly can't because I find flaws in his reasoning (on occasions where he actually uses reasoning)

And also: you're doing it wrong, dude. As a newbie, your first 10 posts have to be "subscribe", "cool, I like the idea", or "what GPU is best?", not a long insightful post derived from your own thoughts about one of the most controversially discussed topics on this forum.

[Roger_Murdock]

Thanks, molecular! By the way, I did some more reading up on the fractional reserve issue and (think) I have a better handle on it. I'd be interested to hear your thoughts on the post below which is from another thread:

https://bitcointalk.org/index.php?topic=79555.msg910974#msg910974

The takeaway as applied to the issue of deflation in a Bitcoin economy is that the second type of deflation (deflation as a result of a contraction of the money supply) should be much less of an issue.

[jtimon]

Let's then say that the question is if business cycles are a pareto-improvement over their absence? Then the answer is no. Changes in the quantity of money (regardless of whether this is an increase or decrease) merely redistribute wealth, they do not present a pareto-improvement.

Thank you for the hint. Yes, that's what I was trying to say, pareto-improvement = "good". The opposite of a pareto-improvment = "bad".
My point is that just like an increase in the quantity of money can cause malinvestments and inefficiencies, a decrease can also cause that society doesn't use (as a whole) its resource in the most efficient way. I claim that deflation can make us trade and invest below our possibilities in terms of real resources.

In my words this would be "Not price deflation but monetary deflation can cause problems."
Why? What's so different?

Changes in the quantity of money are merely a redistributive measure. Since money is injected through particular funnels, from which it goes to other parts of the economy, this leads to a shift of wealth in the opposite direction. In some cases, such as credit expansion through the banking system, this leads to cycles. If the production costs of money are close to the market price, and there are no legal restrictions on the competition of production of money, the redistributive effect is minimised. This works much better with gold than with fiat (if we disregard FRB). With Bitcoin, I would argue it works even better, you can very easily see how the production costs trail the market price and how marginal producers fall out. It's genius.

What if we have a constant monetary base? There's no production of money, there's no cost of production of money. That's what we will have with bitcoin. Well, the monetary base will actually shrink over time.
What about hoarding caused price deflation? Is it also harmless like growth caused price deflation?
Actually, I don't like the term "growth caused price delfation" because is misleading. With improvements in production you don't get "a general fall in prices" just a fall in prices in a concrete good.
Just to rembember you, I have no problem with a constant base I just don't think that money should (or even can) perform the medium of exchange and the storage of value functions together. My problems with deflation and hoarding are deeply interconnected.

A change in the the price level on the other hand is are not accompanied by such redistributive effect. You could argue that a rise benefits savers and a fall benefits borrowers, but this only works if one of them mispredicts the future price development. If they have reasonably accurate predictions about future price, that will be reflected on the interest rate. So it could be said that sudden and unexpected changes in purchasing power could be a problem. But when do such things occur? Normally, they happen when this is a consequence a change of the money supply, for example, credit contraction. If people expect a fall in the prices, or if the fall is stable and predictable, then there is no "problem".

You mean that the inflation premium (if predictable) is factored in the nominal interest rate. Yes, I agree.
But when there's deflation, that premium is negative.
Say you have 5% basic interest (for you, that would be the time preference that appears in the financial market and is not caused by the structure of money itself), a 3% risk premium (for a given borrower) and 20% price delfation. You won't have -12% nominal interest, the money just won't be lent unless the capital yields that the borrower expects on his investment are greater than the deflation. The borrower must give something to the capital-money saver to convince him not to hoard the money.

The issue is not credit/debt, but increases of money supply through credit/debt. And yes, you're right, the freebanking branch claims that credit expansion/contraction do not necessarily create business cycles.

What they think it does? They are part of nature like MoonShadow claims, right?

They argue that in a free banking system with a commodity monetary base, credit expansion/contraction satisfies changes in the demand for money and therefore does not cause cycles. I find their argument unpersuasive.

Me too. Also I find "demand for money" a tricky term. The demand for money is the offer of goods and services. The demand for savings is what really determines interest. But the offer of savings must come from genuine savings or imbalances will come, as explained by Hayek and others.
Anyway, after watching a long conference by Huerta de Soto, I find these two "austrian branches" more compatible than I first thought. Although I don't think FRB is the root cause of cycles, I see how it just make things worse.
The problem with FRB is that it's enforced by law. The customer cannot negociate the reserve rate with the banker. I would remove FRB for regular accounts and let banks offer "fractional reserve accounts" in which contract is specified what happens in case of a bank run. There would be no deposit insurance fund or anything like that.

But does the deflation take an active part on the credit contraction? Doesn't it have any side effects?

DeSoto goes into much detail about how the prices change during a credit contraction. Sadly I don't remember all of it. But basically, the stuff that is produced will be considered too expensive, and people will only be willing to buy it at a lower price. This causes a fall in the market prices. Assuming the contraction is not countered by printing more money (or regulations), eventually the price will equilibrate and the bad investments will be liquidated.

Ok, so basically the prices of consumption goods fall, but the prices of production goods rise accordingly. The market realises that it really wanted to invest and not consume so much.
My claim is that this is not the way it works. With deflation capital prices also fall. Yes the bad investments get liquidated but also, as a pareto-enworsement by-product, less investments are made than what could be made and lots of wares go to the trash (for example, plenty of hours of labor that cannot be recovered). Deflation corrects the previous inbalances but it's an imbalance in itself.

Merchants are just right watching their inventory depraciate?

I suppose you could say that, but only until the equilibrium is reestablished. It does not go on forever.

Of course it doesn't go on forever. My claim is that while it is with us and "the equilibrium" is restablished, it causes economic harm too.
Without FRB and with a constant monetary base, you will have the bust when capital yields (that naturally drop by prosperity) are too low for investors to convince savers to lend instead of hoarding. That hoarding causes deflation which in turn reinforces the incentive for hoarding. That doesn't go on forever neither. By not investing enough, capital yields eventually rise enoguh to restablish the financial market functioning. A little bit of destruction before we can go back to a functioning market. That artificial limit to growth is caused by the fact that capital-money is not perishable. We all must suffer periodically so that capitalists can enjoy their rent perpetually.

Doesn't the production of real capital decrease under monetary deflation?

Not necessarily. The point here is the interest rate, not the fall in prices. The interest rate must correspond to the time preference of people and their willingness to forego consumption. During the boom, the price signals that people are foregoing consumption, so more producer goods are produced. During the bust, these need to be either sold at a loss, or dismantled and in the worst case scenario, scrapped. As you hopefully see, the problem is a disequilibrium, not a falling price.

Yes the problem is a disequilibrium and not the cure/symptom itself.
Let me try an analogy. You are intoxicated because you have eaten something you shouldn't.
The doctor gives you a pill that makes you through up. Yes, the problem is not the pill but having eaten poison in the first place.
But that doesn't make throwing up good for the stomach. You cannot say "deflation is good" just like you cannot say "throwing up is good". Nor "deflation is harmless" or "throwing up is harmless". It's a painful process. Would you take the pill when you're healthy? Of course not, you don't like to throw up and it's not healthy per se.

So how that expansion of credit starts under a gold standard?

The video is a bit inaccurate, because the business cycle does not require fiat money.The elastic supply only exacerbates it. Under the gold standard, the cycle is started when commercial banks loan "from nothing". They can do this at a lower interest rate than the time preference of the savers. Other banks join, because otherwise they would lose. This is however somewhat mitigate by the risk of bank runs (as there is no lender of last resort).

In other words, there would be no cycles with a fixed supply nor FRB, right?
What about other forms of credit? Businesses paying among themselves with IOUs causes price inflation, doesn't it?
What about businesses bartering among themselves? That should cause price inflation too.

Are you with the freebanking branch or with the FRB opponents?

I think that FRB causes the cycles, but I don't think that's illegal.

This is what I was asking. I think it shouldn't be prohibited but neither regulated the way it is (as an unjustified rent for bankers in my opinion).
You think it's the root cause of cycles and I don't, but I also consider it harmful.
I think it is just a flawed "solution" to the cycles, just like money printing and counter-cyclical government spending.
Do you know if there was FRB germany/argentina in Gesell's times (1862-1930)?
If so, he didn't give it the attention it deserves. If not, why do you think it was so concerned with cycles and deflation?

[jtimon]

"let them die hungry" is a bit of hyperbole, don't you think?  Such things are very rare in the worst of conditions, including the Great Depression.  Libertarians tend to get this image of being social darwinists, but it's simply not so.  I've never known a lib that would give to help someone truly in need, and I've never known a lib that wasn't better prepared than the average Joe for hard times, either.  Never.

Personally, I get a monthly quota of public transit tickets, even though I don't often use them myself.  I get them pre-tax, due to IRS deduction rules; but I do pay for them.  I give away at least half of what I get to people I meet on the street, generally more in the winter than the summer; because a three hour bus ride to nowhere in particular is a fine place to take a warm nap without much risk of getting hassled.  I give them to local shelters and my church for similar reasons.

You got me wrong. I wanted to abstract it from morals and talk only in terms of efficiency so I shouldn't have killed people in my example, sorry.
You were saying that "what's bad for some good for others". My point was that it could still be "bad" overall. It's that pareto thing. Let me try with  another example. There's private firemen company in a town. Half of the town burns (they didn't start the fire) but, hey, what's bad for half of the town householders is good for our firemen: plenty of work for them. My point is that it's not always balanced. The town as a whole was much better off before the fire.
In the same way I was trying to present poverty and unemployment as an unefficient use of resources (seeing the people as investments by thesociety) but that's a more complex example that would probably take us too far from our discussion.
The point is that someone can benefit for other one loss, but t doesn't mean that the gain and the loss must be balanced like it is in say, a futures market.

While the business cycle may be "bad" for a great many, they are also unavoidable.  They existed to some degree under the gold standard and were the greatest of arguments for central bank planning & control of the fiat monetary system; and they have existed since.  Rarely have they been more mild than under an unmanaged "free banking" gold standard.

Ok, so unlike lonelyminer you think a gold standard without FRB would also produce cycles, right?
I think cycles were the problem FRB, money printing and planning were trying and failed to solve.
The difference is that some austrians claim that they're the ultimate cause of the cycles and therefore the cycles didn't exist before them.
Your posistion is slighly different: they're part of nature and you cannot avoid them with "monetary tricks".

Price deflation can be caused by a great many things beyond changes in the monetary base, most of which are still beyond the control of central bank magement even if the data existed to matter.  It's like cpmparing Apples to the entire fruit market.  Austrians focus on changes in the monetary base because it's actually possible to draw conclustions and make predictions based on focusing on one variable at a time.

Yes, price deflation can be caused, for example, by money hoarding. But you can discourage hoarding without central planning or monetary inflation.
The whole market would be more predictable with demurrage.

Specificly, the expansion of credit puts upward presssure on prices, particularly commodities prices used as inputs for industry.  But prices are themselves signals to other producers concerning what commodities are in demand, leading to investements in the production of those commodites even though there may not be an actual increase in demand.  For example, There has been an attitude of 'boom' construction in China the past decade or so.  In the beginning, it was driven by an honest need, and then the government opened up credit because they perceived the need in order to support construction.  Later on the needs were satistfied, but construction companies are in the business of building, so they have an incentive to continue building on the cheap credit provided by the Chinese government.  An attitude of "build it and they will come" develops, and the construction forces up the price of steel & copper.  This tells metals producers in other nations that China needs materials, when they would not if the interest rate wasn't still 'cheap'.  Ultimately this leads to steel manufacturers building new facilities and copper mining companies opening up new viens.  This floods the market of materials, but eventually the Chinese government notices that there is much credit debt & a lot of mostly empty new buildings, and (belatedly) tightens credit.  This causes a complete halt to marginal new construction projects, and the new steel & copper production that was just coming online turns out to be excessive, and the market rates for those products crashes as it becomes apparent that such investments were not needed to start with, thus 'mal-investments'.  This is literally what has just happened in China.  Something that many Austrian economists, bloggers & commentators have been warning against for 5 or 6 years.

So basically the inertia that leads to bubles is unavoiddable because investors are stupid. They see the capital yields of houses dropping and continue to build houses because, despite that market signal, building houses it's all they know.
Is that what would cause bubbles in a gold standard FRB free economy?

If I understand the question, then your wrong about the cause.  It's not the non-perishability of the refernce captial unit that matters.  The down cycle occurs because investment trends have 'inertia' in the minds of investors, who tend to continue investing in the same areas that have done well for them in the recent past.  It's the tallented ones that can see the inflection points that change investment conditions and not continue past thezero future margin point, the rest tend to lose money until they have learned new habits.

The non-perishability of money sets a minimum basic interest or time preference. Under a capital-money system a negative interest is impossible (which would mean that we value things more in the future that in the present). Our monetary system lead us to think that an apple today is worth more than an apple in 5 years, even if owning the apple today doesn't include owning the same apple in 5 years.
The premise that "we always prefer things sooner rather than later" ignores the fact that unlike gold most things in nature rot. Most wares are actually in a hurry to be sold in the market. That, of course includes labor.
But the main consecuence is just that there's a basic interest in money lending.
My point is that if consumption goods prices tend to equal costs by competition, the same doesn't happen with capital goods. The capital yields would be zero if that were the case. That will never happen if there's a basic interest on money. So the non-perishability of money artificially limits our prosperity by limiting our investments in capital goods.
What I was saying is...What happens when the capital yields have fallen to the basic interest in ALL areas?
Imagine that all the investors being rational and tallented. Will they stop investing?

Gold is not perfect money, and neither is Bitcoin.  They are both the best examples of the best
kinds of money that humanity has yet devised.  In part, because they don't need intervention.

Time to define our quality criterion for money. Mine is "the more it minimizes trade costs, the better the money is".
Yours seems to be "the less it has to do with government the better money is".
I see the potential problems of letting the government issue fiat (even if is debt-free like greenbacks). But what if the government issued a fixed and limited quantity. Couldn't this make a better money than gold (at the very least, it is cheaper to produce)?

e) Your own, how that prosperity trend ends?

I can't know that, no one can.  That's the root point.

Not sure you have understood the question. I tried to reformulate it above.

Clarifications:

1) Nominal interest rate = Real interest rate + inflation premium = basic interest + risk premium + inflation premium
So, yes, I'm counting on risks.

2) Why the basic interest is always greater than zero?
Because being the money non perishable it is always better to hold the cash and enjoy that protection against uncertainty that it offers (liquidity premium) than to lend it at zero interest, even when there's zero risk in the loan.
That externality that money holders enjoy for free (or can trade for the rent that basic interest is) must be paid somewhere else. Is it only pay by the consumers through the investors through the borrowers to the lenders or is it also paid somewhere else?

It's paid n many ways.  To many to mention.  It's paid for in taxes, in consumer prices, whatever.  It's alwasys paid, though.

Not sure how is paid in taxes but...I would say that apart from borrowers it is also paid in consumer prices through artificially higher capital yields and commerce costs.

Another question. The "deflation speculators". People that make gains just by holding money in deflationary times.
How they benefit society by signaling that cash to clear debts will be even more desperately needed tomorrow than today?

In the same way that speculators signal that more oil is going to be needed in the future than today, by risking their own captial to do so.  Increases in the price of gas in the near term will reduce the price of gas when (if) such future events occur.  If they don't, the speculators get hurt and teh price of gas is reduced below thir risked amount.

My point is that you cannot compare gas with money like you're doing.
If you consume the gas today you won't be able to also consume the same gas in the future. Thus speculators are doing us the favor of preserving some gas for the future when they know it will be more needed.
But you cannot apply the same reasoning for money. They may be right that "money will be more needed in the future". But the money hoarders, by impeding its circulation today do not increase our capacity to use it for trade in the future. They just prevent it to circulate in the present: they do not increase future's trade capability by reducing it today. So again...How are their profits justified?
Money is not a commodity, it is an agreement among its users. In certain sense, the basic interest and the cycles are the tragedy of this common.

[jtimon]

One more thing to add:

It is desirable for many people trying to make their communities more sustainable.

Be careful what you wish for. A reduction of complexity of the economy means that less people can survive. Maybe you're extremely lucky and the level won't "equilibrate" through famine and war, but I wouldn't count on it.

I don't think that a reduction of complexity necessarily means that less people can survive. Specially when these LETS people tend to focus on food production. They may be paying for this reduction of complexity with other sacrifices such as a reduced standard of living. But they may argue that they're sacrificing luxuries in exchange for an "insurance against peak oil" or whatever.
But, again, I prefer Ripple over LETS. I'm just saying that I understand their desire for a localization of the economy. If, for example, transport costs suddenly rise 1000%, localized economies will be more resilient.

[jtimon]

Here's what Paul Krugman said about deflation in a 2010 column titled "Why Is Deflation Bad?":

"So first of all: when people expect falling prices, they become less willing to spend, and in particular less willing to borrow. After all, when prices are falling, just sitting on cash becomes an investment with a positive real yield – Japanese bank deposits are a really good deal compared with those in America — and anyone considering borrowing, even for a productive investment, has to take account of the fact that the loan will have to [be] repaid in dollars that are worth more than the dollars you borrowed."

...

Ok, now someone explain why I'm wrong and Krugman is a genius.

Although I think Krugman is right in this case, I don't think he's a genius. In fact he has said some things with so little economic sense that I believe he will be remembered in the future by "look how wrong this neo-Keynesian was". About the nobel price...well, Henry Kissinger and Obama have one in peace so...
About you being wrong...I think most of your points are right but you're making some wrong assumptions.
First, you're assuming that deflation (in absence of FRB) is only produced by growth. Then you admit that hoarding also causes deflation. So that 10% deflation doesn't have to mean 11% growth, it could mean a substantial increase in the money hoarded or just a contraction in the monetary base (it will happen with bitcoin due to lost wallets).
You're assuming that FRB is the only form of credit/debt that increases prices, but actually bills of exchange produce the same effect (price inflation). And when those bills of exchange are discounted, you will have deflation too, because there's less credit/debt competing with money as a medium of exchange.
The deflation spiral could be explained only with hoarding since hoarding causes deflation and deflation encourages hoarding. In any case, as you say it must stop at some point.
"Savers are deferring consumption which is not something people typically like to do".
Some people want to do it and would want to do it even with a 0% real return but...
Let's compare lending with hoarding.
When a savers defers consumption to lend he pushes the offer of savings to the right. If the demand for savings curve stays the same, the interest will drop and more of that demand for savings will be satisfied. That demand for savings, when satisfied, will be presumably invested.
But when the saver just hoards its money it doesn't make the interest lower. In fact, with deflation, the same nominal interest rate is less attractive to borrowers so he's effectively pushing the demand for savings to the left. The interest drops too but the quantity of money lent is reduced.
Deflation causes a discoordination between the real capital yields and money-capital yields (an abstract good). Deflation causes the economy to make less investments than it could afford by the consumption that is being deferred. Where's the difference?
The difference are wages (such as labor) perishing in the market, waiting there for the hoarder who doesn't come to take the products he deserves in exchange for the services he had previously given to others.
Deflation signals at the same time that we're consuming and investing too much.
We've explained how it hurts entrepreneurs (borrowers) and investors (debtors if they borrowed to invest).
How does it hurts merchants?
Easy: their inventories dropping in price make them lose money everyday that passes. They will then try to minimize their inventories. So deflation tells merchants to offer less variety and quantity of things in the market.

But I'm borrowing my arguments. Someone could read Silvio Gesell's opinion from first hand then tell me why I'm wrong.
As far as I can tell, no one here has done it yet.
The part 3 "Money as it is" (now "money as it was" would be more appropiate) from the point 8 should be sufficient (at least to point 13 or you may think that I'm actually Keynesian) for this discussion:
http://www.community-exchange.org/docs/Gesell/en/neo/part3/8.htm
But reading completely parts 3, 4 and 5 would be even better.

I've changed my opinions about many things Gesell said since I first read him. Mostly thanks to the austrian school and this forum, but also thanks to E.C. Riegel (who like many austrians advocated for the separation of money and state) and thinking about mutual credit systems such as LETS and Ripple.
But I still haven't seen an informed and serious critique about Gesell from the austrians and that's what I'm still waiting for. Maybe a link to such an article would be enough. But please, remember that Gesell is not Keynes and that Gesell predicted that a Keynesian system would fail so miserably that people "would believe that their salvation lay in the gold standard and would clamour for its re-introduction".

[sunnankar]

Here's what Paul Krugman said about deflation in a 2010 column titled "Why Is Deflation Bad?":

"So first of all: when people expect falling prices, they become less willing to spend, and in particular less willing to borrow. After all, when prices are falling, just sitting on cash becomes an investment with a positive real yield – Japanese bank deposits are a really good deal compared with those in America — and anyone considering borrowing, even for a productive investment, has to take account of the fact that the loan will have to [be] repaid in dollars that are worth more than the dollars you borrowed."

...

Ok, now someone explain why I'm wrong and Krugman is a genius.

Well, first it should be noted that Krugman is not an economist but a political dogmatist much like those political dogmatists who constructed models and argued that the sun revolved around the earth were not scientists. But this statement does encapsulate, fairly accurately, the human action behind deflation. The problem lies in the value judgment of whether that human action is 'good' or 'bad', who stands to gain and why.

Doug French, of the Mises Institute, has written the counter-argument to deflation being bad in In Defense of Deflation. Krugman is a well known statist and that is how he earns his living so he is biased. The reason is, as French concludes, "What Austrians know for sure is that, as Professor Hülsmann makes clear, "the dangers of deflation are chimerical, but its charms are very real." Inflation, on the other hand, only helps those who are massively indebted and inefficient — governments." Inflation helps butter the inefficient Krugman's bread because he would otherwise not make a living without the governmental interference as his predictive economic prowess is abysmal, particularly compared to the Austrians like Schiff.

Another problem statists have with deflation is the effect on assist prices and credit liquidation. As Murray Rothbard wrote in his 1963 America's Great Depression, “It is true that credit contraction may overcompensate, and, while contraction proceeds, it may cause interest rates to be higher than free-market levels, and investment lower than in the free market.  But since contraction causes no positive malinvestments, it will not lead to any painful period of depression and adjustment.”

Mr. Rothbard continues the observation that government policy can hobble the adjustment process by: “(1) Prevent or delay liquidation, (2) Inflate further, (3) Keep wage rates up, (4) Keep prices up, (5) Stimulate consumption and discourage saving and (6) Subsidize unemployment.”

[jtimon]

...abysmal, particularly compared to the Austrians like Schiff.

I find specially funny this critique of Krugman by Schiff:
http://www.youtube.com/watch?v=ktxqtaHJyww
On the other hand, I don't think Schiff understand the problems with deflation. He thinks there's no problemwith deflation. I follow his channel and I think he has actually said "deflation is good" in more than one occasion.

Another problem statists have with deflation is the effect on assist prices and credit liquidation. As Murray Rothbard wrote in his 1963 America's Great Depression, “It is true that credit contraction may overcompensate, and, while contraction proceeds, it may cause interest rates to be higher than free-market levels, and investment lower than in the free market. But since contraction causes no positive malinvestments, it will not lead to any painful period of depression and adjustment.”

Hummm...

[MoonShadow]

I still say that Mish has a better grasp of deflation/inflation than either of them, and a far better predictive record than either as well.  Ironicly, he's not a "trained" (read academic) economist.  He's just naturally talented.  Rich Mayberry, the author of the Whatever happen to ...? series, is another such natural talent.

That said, Schiff's viewpoints are valid from a certain perspective, as are Krugman's.  In both cases, it's difficult to get someone to understand something contradictory to his worldview, particularly when his income is somewhat dependent upon him not understanding.  Both Schiff & Krugman fall into this group, while Mayberry & Mish do not.  In the latter case, both make the majority of their income from their own investments & selling data about said investments and their reasoning.  Technically that would be true for Schiff as well, but not really in practice.  Schiff also might have been influenced by his father, logically, and the long term prison sentence his father received for challenging the legitimacy of the IRS.  (Made worse by actually being correct, the government really comes down hard on that.)

[Roger_Murdock]

How does it [deflation] hurts merchants?
Easy: their inventories dropping in price make them lose money everyday that passes. They will then try to minimize their inventories. So deflation tells merchants to offer less variety and quantity of things in the market.

The price drop is only nominal.  They receive fewer dollars, but those dollars have more purchasing power.  

[JoelKatz]

How does it [deflation] hurts merchants?
Easy: their inventories dropping in price make them lose money everyday that passes. They will then try to minimize their inventories. So deflation tells merchants to offer less variety and quantity of things in the market.

The price drop is only nominal.  They receive fewer dollars, but those dollars have more purchasing power. 

Also, their inventories dropping in price mean they want to hold inventory for less time, which forces them to focus on products that customers actually want. For 'niche' products, it encourages them to form more efficient distribution channels so that they can still provide those products without having to hold them in inventory. That is, it encourages efficiency all around.

[jtimon]

How does it [deflation] hurts merchants?
Easy: their inventories dropping in price make them lose money everyday that passes. They will then try to minimize their inventories. So deflation tells merchants to offer less variety and quantity of things in the market.

The price drop is only nominal.  They receive fewer dollars, but those dollars have more purchasing power. 

Also, their inventories dropping in price mean they want to hold inventory for less time, which forces them to focus on products that customers actually want. For 'niche' products, it encourages them to form more efficient distribution channels so that they can still provide those products without having to hold them in inventory. That is, it encourages efficiency all around.

Interesting reasoning. Empty inventories could be a great thing if merchants are selling all the stuff. A problem for them if it is because they're not buying anything. But, yes, in an ideal super-efficient world they would be empty.
You always looking the bright sight of deflation. Me citing Gesell every time I can:

The criterion of good money, of an efficient instrument of exchange, is: -
1) That it shall secure the exchange of goods - which we shall judge by the absence of trade depressions, crises and unemployment.
2) That it shall accelerate exchange - which we shall judge by the lessening stocks of wares, the decreasing number of merchants and shops, and the correspondingly fuller storerooms of the consumers.
3) That it shall cheapen exchange - which we shall judge by the small difference between the price obtained by the producer and the price paid by the consumer. (Among producers we here include all those engaged in the transport of goods).

The problem would be, again, that the empty inventories meant a trade depression rather than an increase in efficiency.

[MoonShadow]

How does it [deflation] hurts merchants?
Easy: their inventories dropping in price make them lose money everyday that passes. They will then try to minimize their inventories. So deflation tells merchants to offer less variety and quantity of things in the market.

The price drop is only nominal.  They receive fewer dollars, but those dollars have more purchasing power.  

Also, their inventories dropping in price mean they want to hold inventory for less time, which forces them to focus on products that customers actually want. For 'niche' products, it encourages them to form more efficient distribution channels so that they can still provide those products without having to hold them in inventory. That is, it encourages efficiency all around.

Interesting reasoning. Empty inventories could be a great thing if merchants are selling all the stuff. A problem for them if it is because they're not buying anything. But, yes, in an ideal super-efficient world they would be empty.
You always looking the bright sight of deflation. Me citing Gesell every time I can:

The criterion of good money, of an efficient instrument of exchange, is: -
1) That it shall secure the exchange of goods - which we shall judge by the absence of trade depressions, crises and unemployment.
2) That it shall accelerate exchange - which we shall judge by the lessening stocks of wares, the decreasing number of merchants and shops, and the correspondingly fuller storerooms of the consumers.
3) That it shall cheapen exchange - which we shall judge by the small difference between the price obtained by the producer and the price paid by the consumer. (Among producers we here include all those engaged in the transport of goods).

The problem would be, again, that the empty inventories meant a trade depression rather than an increase in efficiency.

Tell that to the Japanese.  Just-in-time manufacturing ate Detroit's lunch in the 1980's.  Print-on-demand & every aspect of the Internet is doing the same thing for the media industries today.

[jtimon]

Tell that to the Japanese.  Just-in-time manufacturing ate Detroit's lunch in the 1980's.  Print-on-demand & every aspect of the Internet is doing the same thing for the media industries today.

That seems to be a clear case in which the reason is an increase in efficiency. All I'm saying is that it doesn't have to be necessarily the case.
Yes 3d preinters are going to change everything but we're just talking about the effect of different monies in the economy, right?
I thought it was the monetary technology what we were discussing.

[lonelyminer (Peter Šurda)]

This is a fascinating debate. I don't have time to reply now but will revisit it in the future.

[Roger_Murdock]

Hey MoonShadow, I read Mish and want to see if I'm understanding him.  (And I don't think he says all of this; some of it is me trying to fill in the gaps.) So the Fed is printing money like crazy which has some Austrians convinced that inflation or even hyper-inflation is the real threat and just around the corner.  But what the hyper-inflationists are missing is that all this money printing is the finger in the dam trying to hold back much larger deflationary pressures caused by debt deleveraging.  But my understanding is that the deflation that's trying to occur on the debt side is the natural, opposite-and-equal-type reaction to years of inflationary policies by the Fed which printed too much money and kept interest rates too low for too long.  And my understanding is that the liquidation of all this bad debt (which will be deflationary) needs to occur for the long-term health of the economy.  (It's trying to unravel a lot of "malinvestment" which seems to be the word of the day.) My understanding is also that there are powerful interests that are terrified of this looming deflation because they stand to lose their shirt.  That would include obviously the government, the biggest debtor of all.  But that also includes the banking industry, right? Banks are huge creditors, but they're also huge borrowers, no? And in a deflationary contraction, the banks' borrowers are going to be more likely to default, making it more likely that the banks will default on their own debts.  

My questions are: (1) won't it be relatively easy for the Fed to "win" the war on deflation (which again, I think is a bad result)?  Won't you at some point overpower the deflationary deleveraging that's trying to occur if you just print enough money? And don't they have every (bad) incentive to do so?

(2) Won't all this money printing become inflationary (in a price sense) at some point?  Even if (or maybe even, especially if) the house of cards topples and all this debt is forced to liquidate thereby causing deflation on the debt side, won't the economy eventually releverage when it starts growing again?  And when it does, won't it be releveraging on a much larger base?  

[jtimon]

The problem is that even if the fed money printing keep prices "stable" compensating the debt deflation you mention, that new printed money has the potential to increase ten fold later by fractional reserve lending.
Even if you don't see any problem with deflation for the rest of the economy, as you say the state is a big debtor.
For the banks is different. Is not that much that they borrow money, the worst part is they create it.
So with deflation their assets (the collateral that backs the debt of the bank's borrowers) drop while their liabilities (the money they have created, the clients deposits) stay the same, making them even more insolvent.
When they say "we have a liquidity problem and that's why we don't borrow among ourselves" they're lying. Their problem is that they're insolvent.
That's what the bail outs were about. And that's why central banks keep lending to them on the cheap so they can make profits just by buying, for example, bonds at a higher interest and cover with these profits their previous losses. Many suspect that they haven't yet recognized the worse part of their losses.
With deflation (or a busting bubble or both) and fractional reserve banking is very easy for a bank to go bankrupt.
Now imagine that the liquidation has ended and the banking sector hasn't collapsed in the process.
The fed has printed a lot, the banks have increased their relative reserves (they had fear to create more money and the old loans are paid) and now the banks can start an artificial boom again by creating new money. That will cause the hyper-inflation. The fed will have to rise interest again (the state will be very harmed because it has been getting so much cheap debt all this time). Also the hoarded money will come back to the financial market (and to circulation) increasing the inflationary pressure. Also a high inflation makes the dollar less attractive as the global reserve currency so other central banks will drop their dollars reinforcing the positive inflationary feedback.
All this assuming that the fed can manipulate interest rates as long as it wants, which is a doubtful premise.
I believe that the USD is doomed to hyper-inflation. After so much monetary inflation, the "not world reserve anymore" factor can do it alone.
The big question is when that will happen.
Maybe it is avoidable without letting the US banking sector fall apart. I don't know, starting WW3 or something.
That's my prediction. But, of course, with a system as complex as the world economy and with as little transparency as there is, it's hard to tell.
Also I don't spend my time watching charts nor I'm economist. I'm interested in monetary theory more from the philosophical point of view.

[JoelKatz]

The problem would be, again, that the empty inventories meant a trade depression rather than an increase in efficiency.

Right, but deflation won't depress trade. The argument that it will is patent nonsense. To the extent deflation encourages hoarding (which makes consumers prefer to hold their money than spend it for goods), it precisely equally encourages discounting (which makes consumers prefer to acquire goods than hold their money). These effects just mean that prices go down -- which was the definition of deflation anyway.

The more my dollars will be worth in the future, the more people will be willing to give me to get them from me, thus the more likely they'll succeed in getting me to part with them.

[jtimon]

The problem would be, again, that the empty inventories meant a trade depression rather than an increase in efficiency.

Right, but deflation won't depress trade. The argument that it will is patent nonsense.

Patent nonsense, self-evident, obvious...TO YOU.

To the extent deflation encourages hoarding (which makes consumers prefer to hold their money than spend it for goods), it precisely equally encourages discounting (which makes consumers prefer to acquire goods than hold their money). These effects just mean that prices go down -- which was the definition of deflation anyway.

I remember that argument. I've never denied that deflation must eventually stop.
It is obvious that if the price of the whole world drop to pennies on the dollar someone will be smart enough to buy. That doesn't contradicts the positive feedback between hoarding and deflation, just puts a limit on it. People will still eat no matter how much they profit by hoarding, etc.

In this case the point still is...
If all merchants operate on losses, they will cease their operations fast.
Now, tell me, how does deflation makes the "smart" merchants rich?
Just to remember you, merchants use to buy wares at a time and a price and sell the same wares at a later time and a higher price. That's their business.

The more my dollars will be worth in the future, the more people will be willing to give me to get them from me, thus the more likely they'll succeed in getting me to part with them.

Is this the "predictability makes deflation impossible by perfect speculation" argument again?
Or just a new one in which "deflation in fact (and against all intuition) discourages hoarding because people will be willing to sell their mothers in exchange of your hoarded coins they know are growing in 'value' " ?
Sorry but I don't buy any of them. They seem "patent nonsense" to me.