The New Normal 30 comments
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Deflation has been the rule in high tech ever since I first programmed a multi-million dollar IBM 7090 forty-seven years ago (which had less computing power than my current $100 watch). We high-techies have learned that we have to double the usefulness of what we sell every 18 months if we want to charge the same number of consumer dollars for our products. In most cases we haven't been able to keep up with the relentless progression of Moore's law (the amount of computing power you can get for a dollar doubles every 18 months) and prices have fallen.
Maybe we should all learn to live with deflation.
It wasn't that long ago that it cost dollars per minute to call coast-to-coast in the US. Today there is no incremental cost for us to use video Skype with grandson Jack on the left coast. His other grandparents in Ireland pay the same amount. Cell phone rates are kept up by monopolies and cartels but will soon crash. Most people can get basic (pretty basic) DSL broadband access for what dialup used to cost. Broadband prices are even lower for even more in much of the rest of the world.
Suddenly it looks like the rest of the economy may be going the way of high tech. Oil and housing prices are back to 2004 levels (even as I write this, gas is back up a few cents, though). Most other commodities including agricultural goods have crashed as well. Industrial products like steel and fiber are available at bargain prices. The IRS reimbursement rate for mileage went down on New Year's Day. Even wages are actually down given less overtime, smaller bonuses, less 401(k) match, smaller medical benefits, and actual givebacks by unions seeking to save jobs. Despite a recent bounce, the stock market is where it was ten years ago.
Interest rates paint the same picture. Some people are accepting negative rates on very short-term treasury notes. Are they dumb? Not if deflation is going to continue, because the purchasing power of their investment is increasing as long as most of the principal is safeguarded. In fact getting six percent interest in a time of five percent inflation is a much worse deal; you have to pay taxes on the six percent, which means you're probably losing purchasing power. If you get no interest in a year when there's five percent deflation, you've got a real gain in purchasing power and you don't even have to pay any taxes on the gain. No wonder governments hate deflation.
Deflation is hell on debtors whose debts get harder and harder to repay. Deflation is great for savers who gain (tax free) by postponing consumption. Do we really want to go back to being an economy of debtors? Inflation is miserable for the retired and others living on a fixed income; deflation is a pay raise to everyone receiving Social Security (although a problem for the indebted treasury).
One fear in times of deflation is lack of retail spending, because prices will always be lower soon. We in high tech know that is nonsense. Everyone who ever bought a computer or an MP3 player knew that she'd be able to get the same item for less six months later; but still we buy electronic items. You don't wait until next year to eat because beef prices may be down; you don't even postpone phone calls a few months in hopes that prices'll fall. In inflationary times you fill your gas tank when it's half empty; in deflationary times you let it run nearly dry; but you still need the same number of gallons to drive the same number of miles.
Come on, Tom, you say, you don't really think energy and housing prices can go down long-term, do you? I do, actually, although chances are that governments will print so much money that we'll have inflation again. After all, it's conventional wisdom that we need inflation and that we can't live with deflation. Inflation's a "painless" way to pay government and private debt and lets government collect taxes on nominal income which is actually just inflation reimbursement (some interest and some capital gains).
The price of energy, in terms of how much human time is needed to earn an amount of inhuman energy, has gone steadily down through history. Think what 200 horsepower would have cost when you needed 200 horses to get it. Monetary inflation has hidden some of that deflation in energy cost. Long-term, when we have more nuclear, wind, and solar sources and have either convinced ourselves that CO2 is the harmless gas it used to be or learned to sequester the CO2 from burning coal, the price of energy will continue to fall.
Moore's law is finding its way into more and more products and services. First computing started on the deflationary path, along with every toy or tool with computing in it; communications followed soon after; transportation'll come next as smart cars increasingly run on electricity from a smart grid with all kinds of diversified smart inputs. Cheaper houses are easy to envision; cheaper real estate unlikely, until population growth stops and people stop emerging from poverty, hopefully because they've all emerged.
When we've had to, we've used adjustment formulae for inflation. We can do the same thing with deflation, although the politics are admittedly tough. Can you imagine Congress passing an annual cost-of-living DECREASE formula for Social Security or annual deflators in union contracts? On the other hand, if we didn't let inflation run rampant, we wouldn't need the sudden deflationary pain of recessions and depressions to put things back in balance.
This post is so far from conventional economic wisdom – and from most of our experience – that it makes even me nervous. It could be that inflation'll come surging back from the flood of money governments are now printing, once we start circulating and recirculating that money again. It may be that we need inflation. But we've lived with deflation in high tech and the results haven't been all that bad. We do live in a time of abundance compared to the scarcities of the past.
UPDATE: According to the Wall Street Journal, reporting on the just released minutes of the December Federal Reserve Board meeting: "'Some members saw significant risks that inflation could decline and persist for a time at uncomfortably low levels,' the Fed said."
But whom will that low inflation be uncomfortable for?
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This article has 30 comments:
Communications, computing power and the Internet have all accelerated the rate of all businesses globally. In marketing, some of the older gentlmen would ask me to 'slow down' in 2000 in M/A meetings.
I informed them this is the pace of global business now. Quite a few of those men went out of business as the tipping points overtook them in a microsecond. I am no know-it-all type, I simply accepted this reality and that such a pace of business meant I would burn out quicker and so I planned accordingly.
The barriers to entry are lower in many sectors now because of technology. While inventories can be reduced very quickly these days in downturns, the human equation of labor does not. But such fast business does have an upside, the downturns and recovery time are a tad faster also.
Last - The U.S. had adequate regulation established during the Great Depression to stem excess leverage. The U.S. had a strong warning shot across it's bow in 1987 and subsequent recession three years later. How deregulation was allowed to be rammed through government less then a decade later is appaling and shows the U.S. political system is now broken, being two sides of the same coin. We'll pay down the debts, recede a bit from the global stage and make a bit of a comeback in 2013. In-between, plenty of opportunity for those with cash as you mentioned.
How will this expense to be borne with falling wages?
There's a difference between deflation (ie. lower prices) caused by improvements in productivity, like in the computer industry, and deflation caused by a shrinking money (or credit) supply, as we're experiencing in today's environment.
Most items whose prices are falling these days are doing so because of the latter. It's not getting tens of thousands of dollars cheaper to build a house, there's just less money to credit available to buy it with, so the price falls.
Deflation via productivity is a good thing. Deflation via shrinkage in the supply of credit (ie. debt based money) is bad for those who either hold the debt and default, or those who are creditors and find that the collateral they receive won't bring enough money to make them whole on the loan.
One of the main confusing factors in the discussions regarding our current economic crisis is that the term "deflation" is used as though there is only one definition, when there are actually two that mean vastly different things.
Costs will come down, and fairly soon.
Was it Gates who said, something to the effect," If Detroit operated like Silicon Valley, cars would cost $200 and get 200 mph."
They may have to now.
On Jan 06 05:04 PM dixie wrote:
> Let's apply this reasoning to the ever increasing cost of higher
> education (and often resultant student debt).
>
> How will this expense to be borne with falling wages?
To round that off, you might have added (in a slightly hyperbolic vein) "... and weighed more than Big Ben."
The United States Government is waging a losing war against the economic problem. The TARP, Obama's stimulus plan, all of the money that the Fed has put-up as a so-called backstop (so-called, because the United States Government does not have the required funds to cover even a minimum margin call) and throwing the kitchen sink all add up to next to nothing relative the problem.
Paulson and Bernanke have placed a small pincushion at the bottom of the elevator shaft to brake our fall from the 100th floor. It won't work. Even by the Fed's own data the wealth destruction has been massive (check out page 113):
www.federalreserve.gov...
We are talking almost $3 trillion in Q3 of 2008! We have no idea of what Q4 2008 was like... In 2008 you may have had some $10 trillion in wealth destruction! REMEMBER: These figures only include the noted asset classes... Just think of all of the other losses, all of the states, counties, cities, school districts, etc. are almost bankrupt -- If you were to dig deep perhaps it could be even more than $15 trillion.
Then the DEBT that is out there too...!!!!
The United States Government will collapse before it can turn the tide on this downward vortex, but I guess they'll ruin our children's future trying...
If you want to do something interesting, go to Google News and type in some terms like layoff or cutbacks -- you'll see news story after news story from all over the United States, perhaps a different story every minute or two.
This economy is collapsing rapidly, but at the end there will be some type of re-birth. Until then, I say go with the flow...
As the cost of computer power to the consumer falls, the cost for producers to fulfill Moore's law follows an opposite trend: R&D, manufacturing, and test costs have increased steadily with each new generation of chips.
and they get bigger and heavier but go faster. when they go. and only certain business can fix them. and you pay them lots.
On Jan 06 05:16 PM patio wrote:
> Per IThinkBig's excellent post, things occur at warp speed now. But,
> not instantaneously( but close, close ). Higher education costs will
> come down, they have to, supply and demand. Deflation is occuring
> worldwide, so it won't just be Americans unable to afford college
> costs, at the same time student loans will be harder to come by.
>
> Costs will come down, and fairly soon.
> Was it Gates who said, something to the effect," If Detroit operated
> like Silicon Valley, cars would cost $200 and get 200 mph."
> They may have to now.
>
>
>
> On Jan 06 05:04 PM dixie wrote:
the only observation is that wages falling isn't new. thats been going for a long time. maybe we just now got to a tipping point? where the consumer (aka wage earner) no longer has credit and can only see their wages and no longer things there is a way out? sort of like that commercial from years ago with guy riding on his lawn mower complaining about being up to his eye balls. but that finance company had his solution. but that was then. this is now, he has no solution now. and of course wages will start to fall even faster. leading to even more deflation.
On Jan 06 06:03 PM vboring wrote:
> Japan has long dealt with stagnant and falling salaries. It is awkward,
> but possible.
> You're getting warmer.
>
> There's a difference between deflation (ie. lower prices) caused
> by improvements in productivity, like in the computer industry, and
> deflation caused by a shrinking money (or credit) supply, as we're
> experiencing in today's environment.
>
> Most items whose prices are falling these days are doing so because
> of the latter. It's not getting tens of thousands of dollars cheaper
> to build a house, there's just less money to credit available to
> buy it with, so the price falls.
>
> Deflation via productivity is a good thing. Deflation via shrinkage
> in the supply of credit (ie. debt based money) is bad for those who
> either hold the debt and default, or those who are creditors and
> find that the collateral they receive won't bring enough money to
> make them whole on the loan.
>
> One of the main confusing factors in the discussions regarding our
> current economic crisis is that the term "deflation" is used as though
> there is only one definition, when there are actually two that mean
> vastly different things.
>
Smarty is dead on here... although I would argue that the only correct use of the term "Deflation" is when refering to the second, monetary form of price increases, just as the term "Inflation" is only properly used refering to a general increase in prices, not price increases in one sector.
As others have posted, this makes all the difference in the world, and is why the analogy between current challenges and the benign price decreases seen in the tech world and the deflation seen in Japan in the 1990s and what what we face today.
I dont mind getting a raise if everythings going to cost less!
> only if you don't mind the other parts of that. the cars stopping
> for no reason. and can't run on all the roads. or require fuel from
> only certain gas stations.
> and they get bigger and heavier but go faster. when they go. and
> only certain business can fix them. and you pay them lots.
The even better ending to that particular quote is:
"And once every 15 days or so, [cars] would blow up for no apparent reason killing everyone inside"
consumerism has become a way of life in America,and old habits are hard to break....Inflation will reach 20% soon,IMO..
On Jan 06 07:15 PM Six wrote:
> I think you are on the right track Tom. But I don't think the big
> push from the US gov is going to reinflate the ballon this time.
> Consumers are done. Look at the retail numbers for Christmas, for
> once the American people shunned the idea that the only way to show
> someone you care is to pump up your credit card balance. Christmas
> is hallowed ground for consumerism but for the first time in a long
> time the American consumer passed. Historically this will be known
> as the great moderation as people choose to live a frugal lifestyle.
> American society will look very different just 3 years from today.
At the end of the day, both inflation and deflation are zero sum games for society as a whole. The only difference is that the winners and losers are different segments of society. With inflation, borrowers win and savers lose, and with deflation, it's the opposite.
Since governments of all countries and throughout history have been major borrowers, they prefer inflation. Since they control the printing presses, it's not hard to guess which "flation" is going to win.
Wrong! Both are destructive components of the dishonest fractional reserve banking model. Which:
1. Creates money from nothing and loans it out for interest.
2. Destroys that money as the loans are repaid to prevent runaway inflation. The interest is not destroyed you might notice.
BOTH are destructive. Think of it as a barbed weapon that damages on the way in and on the way out. What would you expect of dishonesty? Do two wrongs make a right?
Is there an honest alternative? Yes. It turns out there is. How surprising. NOT!
Only if those they've lent to stay solvent, which is always in doubt in a persistent deflation. Persistent deflation can cause very high real interest rates, even when nominal rates are low. If you expect housing prices to decline by %15 over the next year, then a %4 mortgage is no bargain.
A prudent buyer will not respond to this prospect by saying "I'd like to make a gift to my mortgage lender of all my home equity" -- they respond by demanding a price concession which brings the home down to its expected value, or they don't buy.
The trouble with this process-- which is fine for the individual purchaser, and just tough luck for the seller-- is that it puts everyone else's comparable home underwater, and vulnerable to default (there is no economically rational reason to pay a mortgage which is underwater).
For that reason, a persistent asset deflation (not to be confused with the cost and efficiency improvements in a field like electronics) in an economy as heavily leveraged as ours is will produce massive debt defaults-- which are lousy for savers and lenders.
On Jan 06 05:04 PM dixie wrote:
> Let's apply this reasoning to the ever increasing cost of higher
> education (and often resultant student debt).
>
> How will this expense to be borne with falling wages?
On Jan 06 05:09 PM Smarty_Pants wrote:
> You're getting warmer.
>
> There's a difference between deflation (ie. lower prices) caused
> by improvements in productivity, like in the computer industry, and
> deflation caused by a shrinking money (or credit) supply, as we're
> experiencing in today's environment.
>
> Most items whose prices are falling these days are doing so because
> of the latter. It's not getting tens of thousands of dollars cheaper
> to build a house, there's just less money to credit available to
> buy it with, so the price falls.
>
> Deflation via productivity is a good thing. Deflation via shrinkage
> in the supply of credit (ie. debt based money) is bad for those who
> either hold the debt and default, or those who are creditors and
> find that the collateral they receive won't bring enough money to
> make them whole on the loan.
>
> One of the main confusing factors in the discussions regarding our
> current economic crisis is that the term "deflation" is used as though
> there is only one definition, when there are actually two that mean
> vastly different things.
>
On Jan 06 05:44 PM Roger Knights wrote:
> "I programmed a multi-million dollar IBM 7090 forty-seven years ago
> (which had less computing power than my current $100 watch ..."<br/>
>
> To round that off, you might have added (in a slightly hyperbolic
> vein) "... and weighed more than Big Ben."
On Jan 06 07:15 PM Six wrote:
> I think you are on the right track Tom. But I don't think the big
> push from the US gov is going to reinflate the ballon this time.
> Consumers are done. Look at the retail numbers for Christmas, for
> once the American people shunned the idea that the only way to show
> someone you care is to pump up your credit card balance. Christmas
> is hallowed ground for consumerism but for the first time in a long
> time the American consumer passed. Historically this will be known
> as the great moderation as people choose to live a frugal lifestyle.
> American society will look very different just 3 years from today.
> (which had less computing power than my current $100 watch ..."<br/>
>
> To round that off, you might have added (in a slightly hyperbolic
> vein) "... and weighed more than Big Ben."
"required more air conditioning:"
and STILL managed to run faster than windows Vista! ;-))
www.crashmarketstocks....
The current principal reason higher education so expensive is because it can be: rich parents trying to outparent each other, schools looking to nurture students as much as they possibly can, and the rewards for a fancy degree (and good connections) being very large. In fact, large classes teach most people just as well as small classes do and students' peers can assume much of the burden of reading a essay a week.
As online society inevitably leads to web-based reputations overwhelming the reputations conferred by heavy paper, we'll see a precipitous drop in the cost of higher education (assuming we're not somehow socially stratified by nefarious powers from on high).
On Jan 06 05:04 PM dixie wrote:
> Let's apply this reasoning to the ever increasing cost of higher
> education (and often resultant student debt).
>
> How will this expense to be borne with falling wages?
Unfortunately in our present society, too many college grads are UNABLE to obtain employment comensurate with their education and the student debt load they carry. Here in Michigan many college grads MUST leave the state to find meaningful work.
There are positives to the European model of financing higher education that American society should examine and consider.