I'm in a dialogue with a college friend about (broadly) deflation vs. inflation. He is a proponent of body of work by a lady named Nicole Foss, who writes under the name Stoneleigh.
Her writings in significant areas mirror Austrian theory, in that she writes about malinvestment being caused by artificial increases in the money supply, among other "code words."
However, she takes great pains to make a distinction between "money" and "credit," which leads her to say the Weimar Republic and Zimbabwe were "hyperinflation," but the Roaring Twenties and our current situation are "hyperexpansion."
She repeatedly stresses the threat facing us is a deflationary spiral into nothingness, whereas as I understand Austrian theory, the end threat is the "inflationary crack-up boom." She has my friend convinced that deflation is a threat, and I'm trying to argue that the true threat is the efforts to stop the deflation.
How do I answer her distinction between money and credit? Here's a link to her article where she mentions it: http://www.theoildrum.com/node/2871
Money is a medium of exchange. Credit is a supply of loanable funds. Credit expansion, so long as savings have increased to support it, is benign.
When we talk of "expanding credit" with reference to the business cycle we mean creating money out of nothing to be loaned out, which is the only way the supply of loanable funds can increase without savings increasing with it.
The biggest threat to the US economy or any economy for that matter is new inflation. The previous inflation caused boom and subsequent bust has consumers seeing prices that are not yet in line with their expectations absent the previous inflation. This limit on how far deflation can go is preferable to the limit on what can happen with new inflation. That limit is the currency being valued at zero along with any paper assets denominated in that currency. Of course the prices of physical assets will soar. So you can handle a drop in the nominal value of your portfolio but is that worse than a nominal increase that does not cover the inflation? And to make matters worse the rate of inflation, the rate of the creation of new money and credit, is increasing at much faster rate than the economy is growing.
So when she writes, "Inflation is a chronic scourge, but credit expansions are self-limiting - they proceed until the debt that creates them can no longer be services, at which point that debt implodes in a sea of margin calls." should I just call her out on the false distinction in that sentence between "inflation" and "credit expansions"?
Well, a couple of things. First of all, you can create monetary inflation through processes other than credit expansion, so I don't really think it'd be correct to say both of them are the same thing. Secondly, if she refers to price inflation, general price inflation can happen without monetary inflation OR credit expansion. It can happen, for example, in the face of expectations for the state to commit monetary inflation.
And she is correct when she describes credit expansion (unsupported by real savings), as it can only continue until investors lose confidence in the creditor committing the expansion and loaning money they don't have or, at worst, the pool of real savings dries up and the debtors are no longer capable of meeting their obligations en masse.
Then how should I counter her argument, which is that deflation is a bigger threat than inflation? Her contention seems to be that America is not going to make it through the deflation to see more inflation. I see her argument as ignoring the inflationary crack-up boom that I understand lies at the end of Austrian theory.
In her view, why is deflation bad? My guess is she's going by the usual contention that deflation makes it harder for debtors to pay off their obligations. My response to that is a recession is nothing more than a correction of the malinvestments made during the boom period. This correction necessarily entails those who made unsound investments taking losses. It sucks for them, yes. It necessarily means those institutions built on nonproductive activities crumble. But is this really a bad thing?
Shostak, Is Deflation Really Bad for the Economy?
French, In Defense of Deflation