Deflation Looms

My realtor tells me my mother's house is losing 1% of its value every month. That's not because it's falling down; we've spent almost $200,000 to renovate it. It's not because the neighborhood is going downhill, either. The land around it is held by people whose deeds, or zoning, restrict them to one house only, and across the road land is preserved through a conservation easement, allowing no additional houses.

No, the price is going down because there are too many houses and too little money--in the local housing market. And what's happening here is happening elsewhere even more dramatically. That's why so many homeowners are "underwater," and walking away from their homes. Many of them can't find jobs, so, foreclosures are increasing and a record number of people have been forced from their homes.

Foreclosures build downward pressure on house prices: banks try to unload the houses they're stuck with.

There are short-term fixes, such as renegotiating mortgages, or allowing defaulting owners to rent in the interim: both would reduce the number of under-priced houses flooding the market, but the first isn't working--many don't have jobs, or have declining earnings--and the second has hardly been tried.

Falling prices might be a good thing for someone with money, but the reason for it is: most people have too little: it's called price deflation.

Price deflation can be self-reinforcing, i.e. can trigger a downward spiral. Lower prices mean businesses make less in profits. A home-builder, for example, will have to lay off his workers, because he can't sell the houses he builds, or has to sell them at cost, or less. He's losing money, so he lays off workers, or goes out of business, which increases unemployment, so fewer, still, have money. That drives prices even lower.

Even some inflation hawks on the Fed Board of Governors are warning of deflation danger. The Fed sets a goal of moderate inflation (2-3%), which keeps the economy moving, but deflation could stop the economy dead in its tracks. It happened in Japan in their "lost decade," it happened in the Great Depression and it could happen now.

It happened in the last two centuries of the Roman Empire, too, and was a major contributor to its fall. There it happened because the wealthy, accumulated almost all the wealth, hoarded gold and evaded taxes. Here, sharp traders threaten speculation against government borrowing, borrowing needed to stimulate world economies.

The financial industry is like those Roman Senators hoarding gold. Since more demand is needed, and since interest rates are basically zero, the Fed could create more money, buying up treasuries, to curb deflation. More focused would be a government stimulus targeted on creating jobs in the public investments we need.

The latter isn't likely in this corrosive political climate, but the former could be rendered worse than useless if big banks still prefer gambling to loans.

Ron Paul: Anti-war, Anti-Fed

I knew Ron Paul was a rare conservative Republican against the war in Afghanistan: outspokenly against. I had seen him in the Presidential debates, and he had seemed too old, and too obsessive about a lot of more quirky issues: I didn't take him seriously.

But when he rose to debate the war in Afghanistan this year, he was oddly elegant. He did ramble a bit, but his argument made a lot of sense. Two points stand out: first, the reason we're in these wars is because it's too easy to go to war. The War Powers Act gave the President 90 days of war before Congress could say boo. By then, it becomes an accomplished fact: how can you withdraw and let the x number of soldiers killed, "die in vain?" So, it's hard, once engaged, to get out of a war, as demonstrated by both Iraq and Afghanistan.

Paul's other main point was that by fighting these wars against Muslims, we are fulfilling Osama bin Laden's strategy for winning the region and driving out the US and the West--using the anger we generate among Muslims to recruit support, while bankrupting us.

Ron Paul is predictably critical of the financial reform bill, but he reveals why housing the Consumer Finance watchdog agency in the Fed is not just a convenience: it will be dependent for a budget not from Congress, but from the Fed, itself. It will be controlled by it.

Paul would like to abolish the Fed and fiat money, for gold, which makes him a bit of a kook among most economists, conservative or liberal. However, he's co-sponsoring, with liberal Democrat, Kucinich, a bill that would require the Fed to be audited, a proposal that makes sense.

Paul's opposition to the Afghan war connects with his opposition to the Fed: fiat money finances wars for Republicans and "unlimited welfare" for Democrats, he says, because the Fed can just keep issuing money, indebting us all. He's not entirely wrong about the debt part, but too many Democrats are willing to finance wars, as well, and "welfare" is pretty meager, compared to the money we lavish on wars.

Paul made the same point I've made on this site: empires bankrupt themselves over wars. The Romans, after their peak, had a long and painful decline, because they could no longer pay for the Empire's continuous wars. They lost territory, losing revenue and the loot from conquest. The Empire consumed more than it produced. Sound familiar?

The western Empire fell because it was so bankrupt it couldn’t even pay the palace guard: so, they overthrew the Emperor, and stole what remained of his assets.

It is a valid question, though: how long can the Fed create money for wars and consumption, and persuade the rest of the world that "the dollar is sound?"