My mother is a disruptive innovator, like me. She has a wide range of connections across many communities, is not afraid of new things – she has had a Mac for over 20 years, makes her opinion known – thus the disruptive, and loves letting other people know about new information she gets.
So she sends me links to interesting stuff she reads all the time. Oh and we tend to vote for different political parties, so our world views are different but, as any creative person knows, you learn the most from people who see the world differently.
Anyway, I end up writing these long emails back to her. They often have a reasonable amount of research in them. So I thought I’d kill a couple of birds with one stone and repurpose them for my blog, removing all the personal stuff like endearments. I’ll do some editing and mash together several emails if there is a thread.
Here we go.
She sent me this article from the Houston Chronicle. I replied:
He is talking about deflation.
A subject very dear to my heart (so sorry of I get a little didactic) and one that I’ve written about this many times over the last decade: https://amanwithaphd.wordpress.com/2008/11/21/scary-graph/
https://amanwithaphd.wordpress.com/2003/06/24/wed-25-jun-2003-033038-gmt/ (from Robert Reich)
Deflation sounds great (prices dropping) but is horrible. People do not have jobs so there is reduced spending. There is little economic action because no one is spending. Since money is worth more in the future than now, no one (either consumers or companies) spends anything.
My take home – the government needs to spend money not for Keynsian reasons (nothing they do, whether it is stimulus or lowering taxes will work while some things can be detrimental) but to keep people employed. They are the employer of last resort. If the jobless level comes down, people will be ready to spend money. They will have more money to spend. Only if they feel confident to spend money will we be able to live through the deflationary cycle. So, do whatever is necessary to directly create jobs, to keep people employed, even if they have to create new public works programs to do it.
And continue doing that until we get out of the deflationary spiral (at which point, we should no longer need the support of the government to create jobs).
The columnist is being a little misleading, making it sound like Keynsian economics – which states that the government can stimulate the economy by lowering interest rates (monetary policy) or by stimulus (fiscal policy) – does not work at all and that we have been lied to for decades. Not true. What the economist talks about is a very specific type of economy – deflation (and realize that during deflation, supply side economics will not work either. It is the demand side that is the problem).
If we are entering a deflationary period, we are in trouble because NOTHING we know to do will change the economy except time, which is what the economist said in other articles. Not cutting taxes. Not cutting the deficit. No sending stimulus checks to people. No one really knows what to do except wait for people to start buying again. What needs to happen during deflation is that the debt needs to be reduced but it can not be because the economy is not producing enough revenue. (By the way, the same thing happens with companies. They lower the price of goods in order to raise revenues to pay off debt. But revenues do not increase so they lower things more. And so on. Why it is called deflation.)
During deflationary periods, neither monetary nor fiscal policies will be effective. In fact, nothing the government nor corporations can do will be effective at changing things unless they change people’s perceptions. The only known solution is time, time for people to start spending again.
Deflation is the thing I fear most because we have no known way to deal with it. Cutting taxes will not fix it and raising government spending will not fix it. There is no policy that either party can do at the government level to solve the problem.
And there is little corporations can do to fix it either. We know this because Japan has been dealing with deflation for almost 20 years. They have tried everything, both tax cutting and government spending. Nada.
During a deflationary period, debt, which can be great during inflation, is now bad. Anyone holding any debt at all can be in trouble. The problem is that to pay down debt requites greater revenues, which are not forthcoming, for the government or for companies.
It is not that Keynesian economics does not or has not worked in the past. It has done wonderfully during normal, inflationary, or depression eras. It will not help much during deflationary times. During deflation, money gets more valuable as time goes on (opposite of inflation). So, no one with money spends any of it because it will be worth more later. Anyone holding debt (bonds at first but eventually stocks) will be in trouble. That is one reason why Getty made out like a bandit. During the deflation of the early 30s, he had cash when no one else did.
Apple is in great shape because of their huge amount of cash. Everyone else is toast. If deflation hits, time to stuff the mattresses. Even gold will not be useful.
Deflation is the worst possible thing. And no one wants to really face it. Everyone hopes it will not materialize.Both political parties are sticking their fingers in their ears and shouting “LA.LA.LA!” So the Democrats pray that Keynsian economics will work and the Republicans still pray that reducing taxes/debt will work. They both may be whistling in the dark here. Neither policy will have any effect.
Krugman has been worried about this for quite some time. Interesting to see other economists feel similarly. The only thing that has ever gotten an economy out of deflation is time.
Why? Because it really gets down to human emotions. People really do not care as much about inflation or deflation as long as they have jobs. Deflation only gets broken when people feel comfortable enough to spend money again. And that only happens when they have jobs with an income that supports them. Get them jobs and we
So remember that while government spending can not alter the deflationary spiral, it can provide a buffer for people living in those times. This is, for me, a key reason for government spending. Not for some Keynsian or ivory tower reason. It will keep people employed while we wait this out. The government is the employer of last resort. Lowering taxes in a deflationary period will not accomplish this. Because the money returned will not be spent. It will be socked away because in deflation, money is worth more next year than today. It will not create jobs.
Many major programs of the New Deal were not really implemented simply because of the macroeconomic effects. They were to provide jobs directly. I may not like the war in Afghanistan but it is keeping a lot of people employed. I’d prefer the government spend the money on developing green energy than war – technological breakthroughs that create new industries provide new jobs – but the thing is to keep people employed. For example, in a normal economy, it would be worth letting the private sector deal with a space program but now the NASA needs to make sure all those jobs are still around.
We can deal with deflation if people are working, just as we dealt with inflation. Without jobs, there is no good news for either political party.