So yesterday we established that deflation means different things to different people. As such that makes it wonderful problem for politicians and journalists to fixate on – lots of words, lots of column inches, yet little actual output. In the meantime the public are distracted from those same politicians actually addressing the cause of the economic malaise they (incorrectly in my view) define as being deflation.
This morning its Alan Kohler’s turn:
Europe is clearly at the greatest risk of falling into a Japan-style quagmire of long-term deflation and depression, caused by a combination of fiscal austerity and zombie banks.
But we know what happened the last time deflation actually occurred:
In theory, deflation causes demand to shrink and the value of debt to rise, although in practice during the 19th century prices halved and output increased seven-fold.
To be clear – deflation does cause hardship for borrowers. But it is hardly alone in that category. The single largest cause of distress to borrowers is poor decision making and entrepreneurial error.
So what are politicians and policy makers worried about? Something called ‘collapsing demand’. What that means is consumers don’t why to buy the stock of goods and services at the prices that entrepreneurs thought they could get on the market. Prices have to fall for markets to clear. Falling prices can be defined as deflation – but the cause is very different. The real question here is why we observe coordinated entrepreneurial error? After all those errors should be random and uncorrelated.
The answer to my mind is excessive government intervention in the economy – either through spending or regulation. As government imposes one-size-fit-all ‘solutions’ on private decision makers so the decisions they get to make become correlated. So rather than blame ‘zombie banks’ we should be blaming zombie government spending and zombie government programs.