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Why Deflation is Unlikely

Economics / Deflation Apr 30, 2015 - 12:45 PM GMT

By: GoldMoney

Economics Financial markets are becoming aware that the US economy is stalling, so investors increasingly take the view that with demand likely to stagnate or even fall, prices for goods and services will soften. This is already threatening to be the situation in a number of other advanced nations, with negative interest rates to combat it becoming commonplace. For this reason, gold and silver priced in dollars are expected by many traders to drift lower.


Putting the prices of precious metals to one side for a moment, there are some serious issues with this analysis. Let us assume for a moment that the US economy does stall; the text-books tell us supply and demand for goods and services will rebalance at lower prices. This was what effectively happened in the wake of the Lehman Crisis, when energy, metals and precious metal prices all fell sharply and large discounts for manufactured capital goods became available. This does not mean that second time round (and a sliding US economy could create the sort of financial strains that make Lehman look like a walk in the park), the same thing will happen again. Indeed, for next time the central banks already have a plan to contain the situation based on their experience in the Lehman Crisis. It involves the rapid expansion of money, which to the Federal Reserve System (“Fed”) at least has been proven on recent experience to have little or no inflationary consequences whatever.

We therefore know something we did not know in the wake of August 2008, when the imminent collapse of the global banking system drove everyone to increase their cash balances. This time we know that last time’s guarantees of $13 trillion, or whatever sum you care to think of, will yet again be provided by the Fed, backed by hard cash on demand. Forget bail-ins; they are for dealing with one-off bank insolvencies, not a wider systemic crisis.

Of course it’s tempting to think that a new financial and economic crisis will drive us towards selling anything we can for cash. However, this has not necessarily been the experience of previous monetary inflations: after printing money fails to raise the animal spirits, the consensus often expects a fall in prices, only for the opposite to happen. This was certainly the case in Germany and Austria after the First World War, when economic burdens from the combined destruction of infrastructure and wealth, the loss of productive lives, the end of military spending and the burden of reparations were all expected to overwhelm their respective economies. The result was people briefly preferred to hold onto their savings rather than spend. How wrong they were.

The political situation then was very different from that of today, but there was an important economic similarity. The rapid acceleration of growth in money supply failed to stimulate the Germanic economies in the preceding seven years. It’s the same today. The mistake is the one identified by Frederik Bastiat nearly 200 years ago with his fallacy of the broken window. We see the dynamics of a failing economy and draw our conclusions from that observation alone. We disregard the previous monetary inflation, and we have yet to see the more rapid expansion of money and credit to come. This is why we do not anticipate the growing certainty that the purchasing power of money will fall and not increase, embarking on the same value-path as the German mark and Austrian crown in 1920-23.

If a financial crisis is to be averted, the best we can hope for is an economy moving sideways rather than expanding. But there are dangers to this hope, partly from markets that are dangerously over-valued, and partly from the limitations on further private sector debt creation. In short, we are living with a situation that is highly vulnerable to an exogenous shock.

Meanwhile, the prices of gold and silver reflect the deflationary view to the exclusion of the likely outcome. There is no doubt that many dealers believe that gold and silver are merely commodities, otherwise they would be chasing their prices upwards in a dash for cash. Future historians should be puzzled. Perhaps someone will write a history with a snappy title, such as “Extraordinary Popular Delusions and the Madness of Crowds.”

GoldMoney

For more information, and to arrange interviews, please call Gwyn Garfield-Bennett on 01534 715411, or email gwyn@directinput.je

GoldMoney is one of the world's leading providers of physical gold, silver, platinum and palladium for retail and corporate customers. Customers can trade and store precious metal online easily and securely, 24 hours a day.

GoldMoney customers hold almost 21 tons of gold in storage worldwide, and own a combined total of US$1.6 billion in precious metals.

Historically gold has been an excellent way to preserve purchasing power over long periods of time. For example, today it takes almost the same amount of gold to buy a barrel of crude oil as it did 60 years ago which is in stark contrast to the price of oil in terms of national currencies such as the US dollar.

GoldMoney is regulated by the Jersey Financial Services Commission and complies with Jersey's anti-money laundering laws and regulations. GoldMoney has established industry-leading governance policies and procedures to protect customers' assets with independent audit reporting every 3 months by two leading audit firms.

GoldMoney has its headquarters in Jersey and also has offices in London and Hong Kong. It offers its customers storage facilities in Canada, Hong Kong, Singapore, Switzerland and the UK provided by the leading non-bank vault operators Brink's, Via Mat, Malca-Amit, G4S and Rhenus Logistics.

© 2015 Copyright GoldMoney - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


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