

Fear Not Deflation - secondChrome
http://www.forbes.com/sites/jonmatonis/2012/12/23/fear-not-deflation/

======
millstone
I hope there are better arguments for the deflationary nature of Bitcoin than
this article.

The author uses the utterly senseless definition of deflation as a change in
the _total_ money supply, instead of _per capita_ money supply. If Bitcoin
becomes more popular, its asset value increases because demand for it has
increased, not due to "political numéraires" (whatever those are). Increasing
the population but keeping the money supply fixed is fundamentally
deflationary, and Bitcoin's "population" has the potential for large growth.

Second, it's astonishing that the author would approvingly quote a passage
like this:

 _Deflation rewards the prudent saver and punishes the profligate borrower.
The way a society, like an individual, becomes wealthy is by producing more
than it consumes. In other words, by saving, not borrowing._

This is naive bullionism taken to a whole new level of insanity, with physical
gold replaced by numbers in a file. Saving is equated with producing, as if
putting my bitcoin wallet on a thumb drive and stuffing it under my mattress
starts up a factory. Entirely absent from this morality play is the prudent
investor, who borrows or spends out of savings to buy capital goods with the
hope of increasing production, and is punished.

------
josephlord
Deflation is a disaster for anyone with debts as the value of them grows
rather than being inflated away. So while it may be OK in the bit coin world
(as I don't believe there are any significant bit coin denominated debts)
deflation would cause massive economic contraction in the real world as debts
would grow reducing spending and there is reason to believe it would not
converge rapidly to an equilibrium (certainly not one that people would like).

<http://www.debtdeflation.com/blogs>
<http://www.complexity.org.au/ci/vol06/keen/keen.html>

~~~
Tycho
Wouldn't this be compensated for by lower rates for lending?

~~~
josephlord
Interest probably wouldn't fall below zero. Also no incentive to lend money
rather than hold so not so much incentive to offer good rates anyway.

Savings rates might well go negative though.

Steve Keen as linked to is well worth a read rather than my first
approximation guesses.

~~~
Tycho
Doesn't inflation just encourage a different type of hoarding (ie. in physical
assets like real estate or gold)?

~~~
josephlord
Well when you buy real assets someone is selling and they are left with
inflating cash they need to spend on something.

If someone is investing in productive assets (companies, rentable property)
for their sustained revenue potential that isn't a bad thing. Spending on
goods and services will add demand to the economy and money will circulate.

There is also more reason to borrow in an inflating economy which adds money
and demand to the economy. Obviously borrowing can get too high and needs
moderation if bubbles are to be avoided but gentle adjustment is needed to
prevent massive swings in aggregate demand.

Also I'm not arguing for high inflation just that even a couple of percent
deflation could be really bad.

~~~
Tycho
Ok. Thanks. One more question.

Isn't there some circular logic at play when you say that deflation would
cause people to simply hold onto cash rather than invest in productive
enterprises. Because if nobody invests in productive assets, then there will
be no more goods entering the economy, therefore there will be no deflation of
the currency to worry about in the first place...

------
markpercival
Since neither Forbes nor the author, Jon Matonis, saw fit to point this out, I
will.

This is an op-ed piece, written by a board member of the Bitcoin Foundation.
Regardless of the merit of the article, it should have been explicitly stated
in the piece.

~~~
gojomo
The prominent author bio in the right column discloses his Bitcoin Foundation
affiliation, and as a signed 'contributor' piece, it's 'opinion' by format and
convention. (They also include a "The opinions expressed are those of the
writer" note under the bio.)

------
goodcanadian
Personally, I don't consider mild deflation to be any worse than mild
inflation. A stable currency is better for everyone. Things get increasingly
bad as the rate moves away from 0% in either direction, especially, if it
occurs in an unpredictable way.

As it happens, most central banks aim for a stable currency with a slight
tendency towards inflation. My policy change would really only be minor: make
the inflation target -1% to 1% rather than 1% to 3% (I didn't completely pull
that number out of my ass; apparently, that is the Bank of Canada target
range).

~~~
jvm
The advantages of monetary stability come with a stable growth rate, because
contracts are bets on the future growth rate of money and stability means
those bets can be made reliably.

You have proposed a stable CPI growth rate of 0%. There are two problems with
this: the first (more important) problem is that arguably stable money supply
is more desirable than stable CPI. During a downward supply shock, tightening
the money supply can lead to a financial crisis by causing contracts made
before the shock to fail. In that instance, rising CPI is good because it
reflects a real fall in supply (prices _should_ be higher).

The second problem and the reason why they shoot for 2% CPI inflation is that
many prices are sticky downwards so an average CPI growth rate of 0% leads to
problems. For example, people are known to find a paycut of 1% under 0%
inflation more aversive than a pay increase of 1% under 2% inflation. As a
result, during deflationary periods wages are often frozen at levels higher
than equilibrium, leading to greater unemployment.

Despite these reservations, I agree that 0% CPI growth would be an acceptable
policy, particularly as opposed to erratic policy as we saw in 2008–9. But you
should recognize that moving from 2% to 0% would itself be a strong downward
demand shock that in most countries would likely cause a recession.

~~~
goodcanadian
<quote>But you should recognize that moving from 2% to 0% would itself be a
strong downward demand shock that in most countries would likely cause a
recession.</quote>

Any sudden policy change is going to lead to turmoil and a likely recession. I
did not suggest the change should be sudden.

Also, a target of 0% does not prevent appropriate price increases or decreases
any more than a target of 2%. It is a goal not a mandate. As long as everyone
knows what to expect, plans can be made reliably.

~~~
jvm
> As long as everyone knows what to expect, plans can be made reliably.

Expectations are the flaw with CPI targeting.

Toy example: imagine NGDP is $100 and the CPI is 100. Fed guidance says 0% CPI
growth. I have income $10 (note that NGDP is aggregate nominal income). I sign
a deal with you for you to finance my house and promise you for $7 next year,
assuming I"ll live off of $3.

Now a supply shock hits, with enough pressure to raise CPI to 110. The fed
responds by dropping NGDP so now national income is $90 (I know the math here
isn't exact but it's irrelevant to the point). If I'm the average person, I
take a 10% income hit, dropping me to $9. I still owe you $7. My consumption
now has to drop from $3 to $2, a 50% drop! I might not be able to do it so I
might default on my loan. In any case I'm really screwed, and if I do default
(and many other people also default) we'll have a financial crisis _on top_ of
our supply shock. One way to think about this is that the debtor has to eat
the creditor's consumption haircut. Europe, cough cough.

In contrast, under NGDP targeting, NGDP remains the same, prices rise 10%. Now
my income will still be $10, I will pay my creditor $7, and my only hit is the
10% inflation. My creditor has the same exposure.

I'm not trying to create sympathy for debtors, of course you could argue that
they were over-leveraged and deserved what they got. But under NGDP targeting,
debts will always be repayable in principle (because enough money will exist
in the system) so systemic risk is minimized; minimizing that systemic risk is
good for everyone.

------
shadeless
Sorry for off topic but I must say I'm shocked at how bad is the experience
browsing forbes site - popup, ad redirect page, ridiculously overcrowded
article page (<http://i.imgur.com/uARSR.jpg>). Just wow.

------
yxhuvud
I really wish Ripple got more press. Instead we get stupid articles like this
that is downright painful to read. Eli explained why it was stupid way better
than I ever could, so read that comment for motivation.

Basically Ripple is the anti-thesis of bitcoin as it works solely on trust
between the participant and does therefore catch the essential mechanism of
how all fiat economies work.

------
eli_gottlieb
This has got to be one of the dumbest fucking things I've ever seen. Its only
real point is that commodity-based currencies and deflations weaken
government.

Furthermore, its idiotic praise of _societal-level saving_ is pure nonsense.
My income is someone else's expenditure, my credit is someone else's debt.
Money can obscure this fact, not alter it. In order for me to save, someone
else must spend.

Do they _have_ to spend beyond their means and go into debt or reduce their
own savings for me to save? Well, _that's_ where the issue of money comes in.

If we have a standard-issue modern currency, ie: slow but steady rate of
inflation targeted by a central bank, then some amount of _new money_ enters
the economy each year. As long as total new savings in the year don't exceed
this amount, _then and only then_ can everyone save at the same time.

In a gold-backed inherently-deflationary currency without fractional reserve
banking or government fiat to create inflation.... all savings is zero-sum.
Such a currency is indeed inherently deflationary, and the deflation _spirals_
as those who can actually afford to save come to own larger and larger
portions of the total bullion supply -- which they are of course saving!

You end up with only one way to put aggregate demand back into the system:
credit. Which is exactly what has happened to our real societies in the past
three decades of anti-inflationary, anti-labor public policies! Problem is,
that makes the deflation truly become a _crisis_ , because even a 2% annual
deflation is in fact an extra 2% interest compounding on any and all nominal
debts.

Deflation is bad for the same reason inflation is bad, namely that an
unexpected change in currency value alters the real terms of almost all
business contracts _ex post facto_. But deflation is also _distinctly_ bad for
_another_ reason: once it kicks in, there is no incentive for net
creditors/savers to engage in _any_ real production of _anything_. Their
biggest incentive becomes the generation and continuation of nominal debts
(whose real value accumulates a deflation bonus). Worse, as the deflation
happens and alters contracts ex-post-facto, people's debts become unpayable.
So now the _creditors_ go bankrupt too, and the only people left safe are the
savers who _literally_ stored physical bullion in a physical location. Anyone
with so much as a _bank account_ finds out they were actually a creditor, and
are now _completely fucked_.

Deflation is a wet dream of survivalist "gold, beans, and ammo" nutters, and
the world's worst preventable nightmare for everyone else!

~~~
pash
_> This has got to be one of the dumbest fucking things I've ever seen._

It's pretty dumb. Really, thoroughly dumb. But you've added some real bloopers
of your own:

 _> If we have a standard-issue modern currency, ie: slow but steady rate of
inflation targeted by a central bank, then some amount of new money enters the
economy each year. As long as total new savings in the year don't exceed this
amount, then and only then can everyone save at the same time._

This is not true. Not even close. First, you are conflating two different
concepts: (a) an increase in the money supply and (b) inflation. Inflation is
often the result of an increase in the money supply, but that's not what it
is: inflation is an increase in how much stuff costs. That is, it's a general
increase in prices.

And prices can move broadly in one direction or another for many reasons other
than a change in the supply of money; the price-level depends also on how fast
money circulates, on the level of supply and demand for goods and services,
and on all sorts of related factors.

Second, the possibility of saving does not depend on an increase in the supply
of money. Doubtless you are thinking of saving in accounting terms: to save
means to have more money later than you have now, so in aggregate that must
mean that there needs to be more money in the economy tomorrow than there is
today.

No. Saving is one side of the saving-investment process, which is about doing
useful work and creating new things. That work and those things are abstractly
called _wealth_ and have _value_ ; wealth and value can be denominated in
money, and people use money to facilitate the transfer of different sorts of
wealth. But wealth is not money, and saving is about accumulating wealth, not
money.

You're absolutely correct that if saving were merely about financial wealth,
about increasing one's "value on paper", then we would need more money to gain
wealth as a society. But it's not, and we don't need more money to accumulate
wealth as a society precisely because it's not the money we value, but the
_things_ and the _results_ of useful work. And so people trade their money for
new things and results, and we can grow wealthier without increasing the money
supply.

 _> In a gold-backed inherently-deflationary currency without fractional
reserve banking or government fiat to create inflation.... all savings is
zero-sum._

On the savings part, see above. On the part of about a gold-backed currency,
or really any commodity currency, here's the thing: they're not inherently
deflationary, or even fixed in supply. It's just that growth of the money
supply is tied to things like improvements in mining technology or the results
of prospecting. What I find really funny when I hear Ron Paul or somebody
advocate a return to the gold standard and the abolition of the Federal
Reserve is that they're really arguing for handing over monetary policy to the
mining industry!

 _> Deflation is bad for the same reason inflation is bad, namely that an
unexpected change in currency value alters the real terms of almost all
business contracts ex post facto._

Yes, right. (Though it's really _uncertainty_ about changes in the price level
that inhibit useful economic activity. Change itself is not bad, but its
unpredictability is.)

 _> ... But deflation is also distinctly bad for another reason: once it kicks
in, there is no incentive for net creditors/savers to engage in any real
production of anything._

There is less incentive, not none. Deflation represents a real income stream
(that is, a constant potential accumulation of goods and services), but just
as you might choose to work more (or harder) to increase your income, so you
might during a deflationary period.

~~~
jerguismi
> What I find really funny when I hear Ron Paul or somebody advocate a return
> to the gold standard and the abolition of the Federal Reserve is that
> they're really arguing for handing over monetary policy to the mining
> industry!

Not really, mining industry still can produce only fixed amount of gold, while
central bankers can potentially print infinite amount of paper money.

(I'm not advocate of gold standard)

~~~
martinced
+1...

And seen that unlimited QEs have been announced one can only conclude that our
current system is deeply broken.

The probability that it ends up in a _really_ ugly way is far from zero.

I could tell that I'd take the "gold-backed, 5% inflation per year max no
matter what" anytime over the unlimited QEs we have now.

We're sitting on a time bomb and it has the potential to change the western
world as we know it.

------
RockyMcNuts
tell it to the guy who goes from an 80% loan-to-value on his house to owing
way more than the house is worth.

who's going to build a factory if building the factory is going to be
significantly cheaper next year, not to mention everything it produces?

who's going to hire anyone if you can hire them cheaper next year?

especially in a country like the US, where everyone is in debt up to their
eyeballs, deflation is a disaster.

~~~
juliancorlet
"who's going to build a factory if building the factory is going to be
significantly cheaper next year, not to mention everything it produces?"

That statement is true of just about any technology I can think of, and yet
investment in tech doesn't seem to have collapsed as a result.

~~~
RockyMcNuts
good point. but tech progress is fast, and tech margins for the leader are
gigantic. so you recoup your investment in 3 years before the next generation.
then the next generation is 10x better, so that motivates building the
following factory with high margins.

you can't build a new power plant that makes 10x better power than the last
one. and yet prices are falling. so basically you have to wait a lot longer
until the old plant is obsolescent, or only build a power plant when the power
shortage gets really bad and margins so high that you would recoup quickly.

falling prices mean high real interest rates, fewer projects meet high hurdle
rates, less investment, less growth and employment.

------
martinced
I agree with the author of TFA that Krugman is wrong. Just as every single
Keynesians out there: they have never predicted anything more than short term
(and what really hurts them is that there are economists from other school of
thought who can repeatedly predict correctly over the long term. Ouch.).

And I also agree that we should not fear deflation.

However hoping that deflation will happen would be like waiting for some pink
unicorn to show up: both the U.S. and the Japan have announced "unlimited
QEs".

In order words: endless money printing to prevent the utter failure of the
Keynesian system.

We'll not discuss the fact that if money is free to print this is not true
capitalism at work (because the amount of new money in circulation doesn't
correspond to the new wealth created)... But hey, this is a Keynes' world
right, so what do you expect.

Could _anyone_ explain me how we'll anything other than inflation (and
possibly a _very_ severe inflation) when, worldwide, the biggest economies are
doing "unlimited QEs"?

If deflation takes place I'd be very surprised (and very happy too, because
I'm a "saver"). I did hedge myself against inflation/hyper-inflation but I
still do have lots of cash/savings.

I'd _love_ deflation to take place but with unlimited QEs it's never going to
happen.

