And I think you are right… the value of the dollar has nothing to do with conventional economics. But then how much does the real economy have to do with conventional econ?!?!?!? I think the problem with economics is that it has been entirely too conventional in an unconventional world (as you said ceterus paribus). BTW, I’m speaking as a Econ BS dropout.

I left a post here but it was not passed through. Maybe this one won’t be either. If it eventually appears, good enough. Its’ pretty sacrastics, but still spot on.

I agree that the velocity of money is key. I have written before that, to a large extent, cash is inert material. Without credit, it is just something for the vending machines. The lack of credit is the problem and I have been outspoken on that one, too.

My big problem is the way economic theory is compartmentalized so well that cause and effect are not a factor, and appear to get in the way of analysis. (All hail ceterus paribus) As I said in the post in limbo, this is like a doctor who only looks at disease without considering the germs or the patient. The Fed ignores asset bubbles, claims to be powerless in their presence, and can’t even detect their presence. They appeared to be the only ones who can’t see them. Most problems stemmed from this intentional ignorance.

Just as inflation is a rise from a base period, deflation is a fall from a base period. If we are in a period of deflation, then that means we must have been in a state of normalcy beforehand. We weren’t. This is a messy recovery, not deflation. And it is impossible for anyone with common sense to talk of deflation without considering the effects of deflation.

About the value of the dollar, I’m starting to think it has nothing to do with conventional economics. Otherwise it would be worth less than Green Stamps now. Or perhaps it maintains value because US debt is in such high demand and the value must hold to maintain value in the debt. Thus, it’s an agreed upon fallacy.

I do include available credit as money. I suppose I could have been clearer on that point. I really enjoyed the post over at Naked Capitalism on “credit money” that made an argument that the neoclassical monetary theory of money creation didn’t apply to our fiat system the way it is practiced.
http://www.nakedcapitalism.com/2009/02/steve-keen-roving-cavaliers-of-credit.html

I see in your #2 that you still think that the Fed controls the money supply. I think this is a fallacy. The Fed controls the money stock, but ultimately is reliant on the appetite for credit to act as a multiplier on that money stock to actually increase the money supply. A decrease in the appetite for credit, rapidly ratchets down that multiplier, so if the Fed doubles the money stock, but the appetite credit disappears then deflation can still rule the day due to no multiplier effect. What I’m trying (doing a poor job I might add) to describe here is the effect velocity has on money supply. There is none now because people are hoarding cash.
Once an appetite for credit returns (who knows when at this rate), I agree inflation will rip because all this fuel has been laid down by the Fed waiting around for the match. There HAS to be a spark though first and I don’t see one yet.
Additionally, I’m not saying that price isn’t affected by ‘flations of all kinds. I’m saying its an effect, not a cause and that to really determine what we are experiencing you have to look at money supply. I don’t want to add qualitative judgements to the analysis like “return to normalcy” because that’s not pertinent. It may be the case, but that’s not what we’re discussing when we talk about inflation or deflation.
As far as real world events, you need to get the causes right when you are looking at the effects. So how you see the solution to real world events is tinged by what you see as the causes. For example, people see the dollar index rising and think its because the competing currencies will do much worse. This is wrong-headed thinking. It’s going up because so many dollars are disappearing through debt writeoffs, lowered velocity, and debt being payed down. Additionally, far fewer dollars are being created in the process of credit origination (the main instrument of money creation – not printing). The end result is less dollars to go around and psychologically greater demand for them. It starts to become a simple supply and demand for dollars equation. Its a weird concept to think about (how can there be a supply and demand for money?!?!?) but its relevant all the same. There will be a time to own gold, but its not yet……… Once they get the credit creation machine going again, its going to take off like wildfire.

Batmando,
I haven’t read much of Mish, but everthing I’ve read seems spot on.

Your focus on price is not relevant to the the discussion of deflation versus inflation (at least IMHO) while a focus on money supply is far more pertinent.

To beat a dead horse
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Carrying that logic a bit further, doctors should concentrate on the disease and ignore the germs and/or the patient. By implication, all it takes to be a good economist is a selective attention to favorite details. Or, inflation has nothing to do with rising prices. Or, from the proper perspective, 1 + 1 can equal anything you want. Horse Shoes looks like a precision form of celestial mechanics next to modern monetary theory.

And, even better, people pay you folding money to do this.

You can’t talk about something as abstract as deflation without considering it’s effects. Deflation without price changes somewhere, and a corresponding change in buying habits, is not deflation. Price recovery from runaway inflation caused by credit induced asset bubbles is not deflation. Junk debt and junk assets being repriced to sane levels is not deflation. It’s a very messy return to normalcy. Unfortunately, regulators such as the Fed allowed this to occur. To speak of deflation as an abstract concept that doesn’t include real world events implies denial and detachment. I hope the quote in the magazine was just taken out of context. Ivory tower thinking does not add value to this economy.

Prediction markets – we’ll get the wrong answer to you FASTER!

DH,

While what you say is correct, I think you are missing the forest for the trees. Deflation is a contraction in the money supply.

reply
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1) I don’t think the money supply is decreasing at this time, nor will it happen at any time in the extreme future.

2) Since the Fed guy controls the money supply, I don’t think he is fretting about an out of control contraction in the money supply

3) If you include available credit as money, then you might have something. But those guys at the Fed still don’t think they can even detect asset bubbles, let alone control them. Since asset bubbles are a function of runaway credit, these guys are probably not associating the lack of credit with any price declines.

4) I really don’t think those people are as smart as generally assumed. Book smart – yes. Real smarts – not very. Numbnuts was probably confusing the price fall of oil from $147 to Brent mid 40s as deflation because oil was fairly priced, in his opinion, above $100. I still don’t think the concept of asset bubbles resonates with those morons.

5) Thus deflation is going on, which is not his fault.