Friday, November 21, 2008

the "d" word

Most casual observers aren't familiar with the term "deflation," unless they are thinking about letting the air out of the neighbor's tires for blocking the driveway. Deflation isn't a good thing, despite the immediate impulse to see a drop in prices that way. In fact, deflation is very much like letting the air out of the tires for the entire economy.

Why? If you expect prices on a new washing machine to be cheaper in three months, you'll probably put off buying one for a while, right? Same with a house, or a car, or any other purchase that you don't need right now. And that slows the economy badly. Investors become reluctant to put money into a business if they have to pay for equipment and all at today's prices to sell their product or services at tomorrow's lower prices. Employers become reluctant to hire people at today's wages knowing that their earnings will drop.

Really, it's a pretty crappy situation to be in. This is one very big reason to go big and bold with a fiscal stimulus. And it has to be the federal government. Most states (including the big one, California) have foolishly hobbled themselves with laws and constitutional amendments requiring them to have balanced budgets. So when the economy slows and government revenue slows, state spending ALSO slows at PRECISELY the time when you want MORE spending to spur economic activity. So Congress and President-Elect Obama - think big. Spend. Dealing with large deficits is a pain, but compared to inflation it's a walk in the park. Because you know what? If we have deflation the current huge deficits, left to us by the de facto Bush Administration that has achieved little but lining the pockets of the wealthy, become even LARGER in real terms anyway.

Oh, and to revisit the question of financial markets (Citigroup? Oh please don't fall over.), by way of remembering how interconnected all this is, the consequences of a collapse by General Motors, Ford, and Chrysler wouldn't "merely" cost us millions of jobs at a bad time. It would also hurt the financial markets. Lots of institutional investors like pension funds hold lots and lots of bonds in these companies...



Post a Comment

<< Home