Damn the Side Effects
A debate between the inflation doves and hawks in the ECB is underway. We already know the winner: In a speech today on the Risks of Low Inflation, ECB president Mario Draghi effectively said damn the side effects, more stimulus is coming.
European Central Bank President Mario Draghi on Thursday said it could be risky to delay additional stimulus for the eurozone, hitting back at a warning from Germany’s Bundesbank that the ECB shouldn’t overreact to lower inflation.
Adopting a wait-and-see attitude” to the steep fall in oil prices “brings with it risks,” Mr. Draghi said in a speech at the Bundesbank’s home in Frankfurt, namely that weaker inflation could become entrenched if people reduce their expectations of future price growth.
“The risks of acting too late outweigh the risks of acting too early. … The longer inflation stays too low, the greater the risk that inflation does not return automatically to target,” Mr. Draghi said.
Former Bundesbank President Axel Weber, now Chairman of UBS Group AG, warned in Davos, Switzerland, in January that additional easing by the ECB would “have a much lower impact in the future,” while the side-effects of its policy—such as distortions to banks’ behavior—were growing stronger.
Mr. Draghi played down such concerns. If the ECB does decide to adopt more stimulus, “the risk of side effects would not stand in our way,” he said.
Price Deflation Should be Welcome
Falling prices of goods and services make money go further. People love bargains.
There is no credible evidence that people put off buying something because prices are falling. Those who need a coat, a computer, or a car will buy one. If your computer or toaster goes out, you throw it away and buy another. If your gas tank needs filling, you fill it. If prices are low enough, impulse buying goes up, not down.
Inflation expectation theory widely believed by central bankers is total nonsense. As I have explained on numerous occasions, low interest rates foster economic bubbles.
And it’s asset deflation not CPI deflation that central banks ought to fear. Even the BIS agrees with that statement. For discussion please see Historical Perspective on CPI Deflations: How Damaging are They?
Economic Challenge to Keynesians
Of all the widely believed but patently false economic beliefs is the absurd notion that falling consumer prices are bad for the economy and something must be done about them.
I have commented on this many times and have been vindicated not only by sound economic theory but also by actual historical examples.
My January 20, post Deflation Bonanza! (And the Fool’s Mission to Stop It) has a good synopsis.
And my Challenge to Keynesians “Prove Rising Prices Provide an Overall Economic Benefit” has gone unanswered.
In their attempts to fight routine consumer price deflation, central bankers create very destructive asset bubbles that eventually collapse, setting off what they should fear – asset bubble deflations following a buildup of bank credit on inflated assets.
Risks of Low Inflation
Draghi speaks of the “risks of low inflation”.
The only risk associated with falling consumer prices is the 100% likelihood that central bankers attempt to do something stupid in response!
Mike “Mish” Shedlock
Inflation is a not so subtle means of default of government debt. USTreasury bonds cannot be repaid. France, Italy, Spain, Portugal, Venezuela, China, Puerto Rico, Chicago et.al. are in line to default. Deflation would mean outright default. That scares the central bankers more than hyperinflation.
And think of the baked-in default of negative interest rates: Loan us 1 million dollars today and we will pay you back not in full later. If not for regulations requiring institutional investors to buy the stuff, they wouldn’t. But because they have to, they have to also invest in even junkier debt to theoretically make up the difference.
Soon you’ll be forced to buy Treasuries in your 401Ks. At -1.25% interest. Or you’ll be charged a 5% penalty.
I don’t think “Keynesians” argue that deflation due to technology or innovation is a bad thing. I think the argument is that a deflation due to a sharp decline in aggregate demand, and the ripple effects that causes (loss of jobs, loss of incomes, etc. etc.) are what they would argue is a bad thing and can possibly lead to a depression, and a decline in standard of living for many people.
“I don’t think “Keynesians” argue that deflation due to technology or innovation is a bad thing. I think the argument is that a deflation due to a sharp decline in aggregate demand…
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Yet deflation is the logical means of increasing demand. Pushing a chain is highly unwieldy, ineffective, and the bigger the chain, the more impossible it becomes, debt which ever grows and is never cleared is also an ever larger drag on demand as those facts become plain to all. Heroin addicts either go through painful withdraw, (deflation), or they simply O.D. Funny thing is they always think they can control the dose.
If consumer prices are declining due to lack of aggregate demand, why in the name of God would you want to deprive economic agents from that clear sign of excess capacity? Don´t you understand that the more you try to subdue small variations in the free-market price mechanism, you´re just setting the conditions for a much bigger adjustment (and crisis) down the road?
“The risks of acting too late outweigh the risks of acting too early. … The longer inflation stays too low, the greater the risk that inflation does not return automatically to target,” Mr. Draghi said.
A cycle inflates, then deflates. The next cycle then inflates.
100% of bubbles burst and deflate, so how does acting too late, outweigh acting too early? Japan has been acting and acting and acting and acting and where are they now? It hasn’t fixed anything.
Draghi somehow expects a different result.
“If the ECB does decide to adopt more stimulus, “the risk of side effects would not stand in our way,” he said.”
Even if that side effect prolongs “too low” inflation? Bernanke said he could prevent deflation from happening here. Turned out not to be true. Bubbles deflate.
The majority of people really don’t care if they are operating within a Ponzi. They don’t want to know anything that would conflict with their reality, and those who actually do recognize the threat, believe they can still profit and simply know when to get out. The Ponzi has gotten too big now as there is no place to go to escape the monster they have created. Infinite inflation is designed to allow the debt created for the purpose of stimulation to be evaporated away, but the corrosive and destructive effects of this false stimulation are killing any remaining interest in productive behaviors.
Price deflation is power to the people , they worked to achieve it , abundance is the reward.
Monetary inflation is theft of that reward by placing it in the hands of another so as to extract a profit by forwarding the existing profit of others to him or her .
The latter is a method of installing conflict , as well as manipulating its resolution to corrupt gain .
More cowbell!
Thank you for switching to wordpress, Mish. Now, I can ask questions (or comment)when I need to ask.
Moar! Sadly for the corrupt threats of moar no longer have the lifting effects they used to have. Only a moar from the Fed will matter and that won’t do much or last long. If they go QE4 (or whatever number it is) to me that will be the time to take it all off the table and out of their system.
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I’LL AGREE WITH YOU THAT ASSET DEFLATION MAKES IT TOUGH ON HOME OWNERS OR INVESTORS IN REMBRANDTS AND GEORGIAN JEWLERY. BUT WHENN ALL ASSETS DEVALUE DOES IT MATTER?
ON THE OTHER HAND WHEN WORKERS’ EARNINGS DEFLATE SOCIETY FALLS APART AT THE SEAMS. YOU POINT OUT DEFLATION DIDN’T HURT THE SWISS. BUT THE SWISS DON’T LIKE TO BORROW MONEY OR EVEN OWN CREDIT CARDS FOR THAT MATTER, WHICH IS AN IMPORTANT POINT. BECAUSE THE AMERICAN CITIZENS (EVEN THE OUTRAGEOULSY RICH ONES) ARE ALL EITHER DROWNING IN DEBT OR LIVING OFF THE INTEREST PAYMENTS ON THAT DEBT. ERGO, THE MORE WAGES DEFLATE THE MORE EXPENSIVE THOSE LOANS BECOME. AND IF I CAN USE MEXICO AS AN EXAMPLE, WHEN THE PESO WAS DEVALUED (I GUESSING AT THE EXACT NUMBERS) AT 50% , THE LENDERS DOUBLED THE AMOUNT OF THE LOAN TO COVER THEIR LOSSES. SO THE WORKER HAD HIS BUYING POWER CUT IN 1/2 AND HIS DEBT DOUBLED. MISH HOW DO YOU SPELL “REVOLUTION”? AND WHAT HAPPENS TO “ASSETS” IN A TIME OF REVOLUTION?
DEFLATION SHORT TERM CAN BE FUN FOR THE CONSUMER BUT LONG TERM IT BECOMES A VORTEX THAT PULLS EVERYTHING DOWN WITH IT INCLUDING YOUR ASSET PRICES. THINK ABOUT IT: BOB’S EMPLOYER SELLS LESS WIDGETS. SO THE EMPLOYER HAS TO SLOW DOWN THE WIDGET ASSEMBLY LINE AND REDUCE HOURS WORKED OR LAY OFF WORKERS. THEN BOB’S EMPLOYERS SALES STILL DROPS. SO THE SALE PRICE OF WIDGETS DROP WHICH MEANS NO WAGE INCREASES OR WAGE TAKE BACK.
BUT WHILE PEOPLE AREN’T BUYING WIDGETS BOB ISN’T BUYING FAST-FOOD, A NEW CAR, ISN’T SAVING UP FOR A DOWN-PAYMENT ON A HOME OR TAKING A VACATION. THIS CAUSES OTHER WORKERS TO LOSE THEIR JOBS AND/ OR TO SUFFERING FROM LOST INCOME.
SO AT SOME POINT THE DEFLATING PRICES ON GOODS AND SERVICE ACTUALLY APPEAR TO BOB TO BE “INFLATING” BECAUSE BOB’S INCOME IS “DEFLATING”.
THUS YOUR ASSET VALUE WILL DROP.
AS JEAN BAPTISTE SAY PUT IT SO ELOQUENTLY THAT MONEY MUST CONSTANTLY CIRCULATE THROUGHOUT THE ECONOMIC SYSTEM OR ELSE ALL WILL COLLAPSE AND NOTHING WIL HAVE ANY VALUE. CASE IN POINT IS DICK FULD OF LEHMAN. WHILE LEHMAN WAS PART OF THE BUSINESS CYLCE HE WAS WORTH $500,000,000 BUT ONCE THE BUSINESS CYCLE FAILED FOR LEHMAN THEN FULD’S NET WORTH WAS A MERE $10,000,000 OR OTHERWISE A 98% LOSS OF ASSET VALUE.
INVESTMENT ASSETS HAVE NO VALUE OUTSIDE OF THE CAPITALIST SYSTEM. CRASH THE CAPITALIST SYSTEM AND YOUR ASSET VALUES EVAPORATE!