Inflation or Deflation?

The question today actually has answers on two different levels. First of all, which is better for the American consumer? And on a different level, which is more likely in our immediate future?

First question first, which is better? If you follow the happy talk of Fed chairman Sir Alan Greenspan, and his faithful sidekick Ben Bernanke you no doubt believe that deflation is to be avoided at all costs and moderate inflation is normal in a growing economy and therefore ok.

From the consumer point of view this is completely backwards. The biggest deception is using prices as a measure when discussing inflation and deflation. The definition of inflation is not an increase in prices as is popularly explained in all of the news media.

Inflation is the increase in the amount of money in circulation. In the Weimar Republic in Germany after WWI they were printing money as fast as the presses would run to try to keep the government solvent. The purchasing value of the German Mark dropped like a rock because there were more Marks chasing around a fixed amount of goods. Notice that the rise in prices followed the increase in the number of Marks in the system.

Here in the U.S. the government has been increasing the money supply almost constantly since the Federal Reserve was created back in the 1930’s. For you and I that means that our dollars buy less and less every year. It’s like a hidden tax. The government pays back loan and interest with dollars that are worth less and less, while you and I buy necessities with more and more dollars.

To see what has happened to your hard earned dollars, go to this web site. It is an inflation calculator and it will tell you how much value your dollars have lost. Enter $1.00 in the amount field and set the initial year at 1913, the year the Federal Reserve was created. Finally enter 2005 as the ending year and hit the submit button. Wow, your dollar is only worth a nickel. No wonder it takes two incomes to make ends meet these days.

So if inflation is such a bad deal for us consumers, would deflation be any better? As it turns out yes, it would. Imagine the money in your bank account actually increasing in value every month. Even if you were not earning any interest (which we aren’t right now) your money would actually be growing in purchasing power.

In Japan, where deflation has reigned for the last ten years, the consumers have more choices than ever. The Japanese can now afford to buy things that were way too expensive a few years ago. And guess what? Since the consumers can afford to buy more things, the merchants have been forced to become more efficient merchandisers.

Deflation = efficiency, honesty, and trust-worthiness.

Inflation = inefficiency, dishonesty, waste, and corruption.

Which would you rather have?

I predict that the first major economy to return to the gold standard and starts aggressively fighting inflation, will draw investment capital from around the world. And guess what? Chances are it will be a communist country. Just look at how much capital has poured into China in the last five years. Smart money doesn’t care about politics.

And now the second question, which one can we expect in the U.S? That’s a tough call because we see both inflation and deflation in our current economic environment. My thought is that first we will have a severe run-up in inflation as the huge increase in the money supply starts showing up here at home.

Currently we are exporting all of those dollars and foreign governments are holding huge dollar reserves. When that stops happening and believe me it will, all of those dollars will show up right here and we will see Argentina style inflation right here in the good old U. S. of A.

Then I believe we will have to suffer through a deflationary depression because demand will shrivel. As Austrian economists believe, inflating the money supply brings a period of false prosperity. It is false and not real because it does not increase the supply of real goods. In fact, the increase causes investment in areas that in normal times would not be made.

In the end, the boom becomes a bust as the system works to rid itself of the excesses brought about by bad investments and financial tampering by the Fed.

My vote is for a gold standard and a mild deflationary environment.