Deflation? : LUSENET : TimeBomb 2000 (Y2000) : One Thread

I know the symptoms of inflation but I have no clue what deflation is all about. Could you please give us a likely scenario of what a deflation would look like?

Also, why would stocks be good during inflation and bonds be bad(?) and vice versa? Specifically, what types of stocks would be good during an inflation? What types of stocks are we to avoid?

-- Li Ping Lim (, June 02, 1999


Overproduction of goods with an unexpected falloff of consumer demand would cause deflation of prices and bonds, but stocks would go down the toilet as well. I don't see any reason for deflation during a y2k scenario. Wouldn't we see galactic inflation when prices would be set at the whim of whoever has some remaining food or medical supplies? Stocks and bonds will be non factors in about seven months. Got Silver Eagles?

-- churchorganist (, June 02, 1999.

Back again and have realized that you WOULD have deflation in items such as real estate, autos, and big ticket items if a food and medicine run wiped out currency, and evaporates consumer demand on luxuries of the former pre-y2k way of life. A new way of valuation of stocks and bonds wold be needed, if such a thing survived five or more years of dark ages...

-- churchorganist (, June 02, 1999.

To fully answer all of your questions would take several books, and Freidman's A Monetary History Of the United States, would be a good place to start.

Deflation is a condition in which the currency purchases greater amounts of all goods and services than it did in the past. This occurs when the money supply contracts, example this occured for a few years during the US's Great Depression. This can occur when there are more loans defualting than there are being created. Do not confuse this with disinflation which is a recently made-up term which merely means a reduction in the rate of inflation (the patient is bleeding to death, but at a slower rate). Note that very mild deflation would occur if people simply paid off all loans and did not take out new loans. This is what happened between 1820 and 1850 in the US. In a corrupt monetary system of central reserve banking combined with fractional reserve banking (which requires a fiat money) deflation usually occurs when you come to a collapse in new loan acceptance followed by bankruptcies, foreclosures, etc. These were called bubbles or panics. Those terms became politically incorrect so new euphanisms were created - recession and depression for example. The new terms didn't sell well either...

On inflation, if the price of the stock goes up (tracks) inflation, you've retained your purchsing power (taxes not included from the so called profit). Since bonds are denominated in a given currency a bond will lose purchasing power unless its interest rate equals or exceeds the inflation rate (again taxes not included). Bonds are wonderful in times of falling interest rates or deflation because they offer higher returns than recent bonds. This assumes that the company issueing the bonds doesn't go broke! Stocks typically fall during deflation due to fewer people buying stocks on margin and general reduction of profits or outright losses, lowering their rate of return.

An excellent small book on inflation is Andrew Dickson White's 1885(?) classic Fiat Monetary Inflation in France. Hazlitt's Economics In One Lesson is good too! If you want the political side of all this, The Creature From Jekyl Island reads almost like a detective novel.

-- Ken Seger (, June 02, 1999. - Inflation and deflation are not products of shift in damand. "galactic inflation when prices would be set at the whim of whoever has some remaining food or medical supplies". Also the seller can not set the price of a good or service above the market price. If you set a price above effective demand (which is the ability + the level of desire to purchase at a given price) nothing gets sold, period. As an owner of a 1984 Kaypro 4-84 with 64K of memeory and two 390k floppy drives and can "set at my whim" any price I choose as these are very scarce, but they are also very unwanted (demand) so if I price them above the market price, I do not make the sale.

"you WOULD have deflation in items such as real estate, autos, and big ticket items if a food and medicine run wiped out currency" Again this is just a shift in demand and has nothing to do with inflation or deflation since they affect ALL prices of ALL goods and services and stems from changes in the money supply.

-- Ken Seger (, June 03, 1999.

the true danger of deflation is that as the economy implodes, and prices fall, the public catches on. When they do, they "wait" for prices to finish falling. Problem is, however, that the bottom turns out many times to be farther than anyone would have imagined. Recall that real estate values fell to 20% of their peaks at the last deflationary era of the 30's. When the market crashes again, we could be in that sort of beginning. How can one protect oneself? Simply stay employed..I suppose. But at that time the unemployment rate was 25% as well. One other thing few consider...the current U.S. debt to the federal reserve....more than 5 one mentions it much, but it is a sure bet that with that kind of debt load, the country could fragment as well.....When the recession begins, it will quickly move to a depression...well, maybe...who knows.....

-- rick shade (, June 03, 1999.

Also see this thread...

"Deflationary forces at work"

-- Linkmeister (, June 03, 1999.

Ask any Asian what deflation is, and the chaos it can cause. Yes, goods are cheap - if you have the money to buy them. Yes, loan rates are low - if you can find a bank that's willing to give one. Real estate plummets, stock prices plummet and when it gets bad enough, people plummet, too, from high rise windows. When the stock prices plummet, companies can't raise operating capital, and their goods usually aren't moving, so they lay off and may go out of business, so even fewer people are buying, so goods prices drop more, stock prices drop more...What's amazing to me is that the vicious cycle does eventually bottom out. Bonds, if the issuer is still around when the dust clears, are the best investment for money that you can't take physical possesion of. Traditionally, gold has been a good investment; it hasn't done much for those in Asia, though it hasn't lost as much value as just about everything else. For Y2K, the 4 priorities are heat/shelter, water and food. When all those are sufficiently provided, look at what else you want to invest in.

-- Tricia the Canuck (, June 03, 1999.

T the C - "What's amazing to me is that the vicious cycle does eventually bottom out." You should read some of the books by Thomas Holt written in the late 1970's. His 100+ year graphs on the financial ratios of banks makes the cycle very clear. Simplifying to the point of uselessness, the banks have to hit a point of risk/reward for themselves and their depositors and get rid of malinvestments (loans that should not have been made in the first place). Holt's books are an easy read. Another oversimplification would be that money that was *poofed* into existance has to *poof* out of existance before things can stabilize and turn around.

-- Ken Seger (, June 03, 1999.

Li Ping Lim

This is a complex subject. It will take time to grasp it because you can have inflation in some sectors and deflation in other sectors at the same time. Overall an economy will experience inflation when people expect to pay more and be paid more. People buy NOW which means 'more money chasing goods or services'. Restrictions in supply plus strong demand equals 'pricing power' for the suppliers - they set the price and increase it to suit themselves.

Deflation in an economy means 'more goods chasing less money'. People wait to buy becasue they think prices will go down and they do not expect to earn more so they save or pay off old debts. Less money plus weak demand for goods and services equals 'buying power' for the customers - they set the price and withhold money till prices go down more. Then employment is threatened and they feel insecure so they only buy necessities. Things slow down. This is called a 'deflationary spiral'. It is occuring in Japan at this time.

In a deflation 'cash is king' but it must be cash you have in your hand because banks become weak and can go bad which is a problem if your money is in the bank.

In an inflation 'things are king'. This means that no one wants to hold cash for very long and everyone wants to buy goods before the price goes up. Brazil is a good recent example of this.

Gold and silver bullion are considered a hedge against inflation but they also work well in an deflationary problem. This is not widely known but is true.

Stocks do poorly in both deflation and inflation because they are subject to the company's earnings which deteriorate in both situations.

Bonds are a special case. One must know them very well in order to keep one's money. People think that bonds are 'safe'. This is an illusion. The interest rate of bonds goes up or down based on demand for the bonds. When interest rates are increasing in the market (now) it means that people are not confident about the future and are demanding a better return for their money. When everyone wants bonds becasue they are a 'safe haven' then interest rates go down.

The only time to buy bonds is when interest rates have topped out and are falling. If you have a low interest rate bond and the interest rate goes up you are losing money rapidly.

Warren Buffett bought bonds last year for the first time in 30 years. He sold them 9 months later. That should tell you something!

-- -. (, June 03, 1999.

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