Inflation or deflation?

History allows us to look back into the future. This was another feature I published back on Dec 22, 2010. The cycle between inflation and deflation is an eerie reality, which I wish was a story we never get to experience.

Why does society find it so tough to comprehend whether the future is inflationary or deflationary?

Inflation is when cash loses value and deflation is when cash has all the value. Now, what’s losing value? Cash or gold? There is much more money following the same assets. Equities and commodities are where they were a few years back. Gold is 30% from the psychological 1000 dollar level for more than 3 years now, agro commodities are still below multi-decade resistances, and global equity fails to portray any crisis.

So should we ask again what’s losing value? Yes, cash is, it’s more but has lesser purchasing value. Let’s ask another question. What is perceived as more valuable, cash, or non-cash assets? We as a society are still giving cash more importance. Ask yourself, what do you desire more, a larger salary, or a larger no of gold biscuits. Yes, many of us still desire more cash.

So is the perception regarding valuable cash correct or is it a misconception? How much more value should cash loose for society to realize the reality, the hedonic myth that running after cash is good? Will, society ever realize till it wakes up one fine day, holding a lot of worthless cash in safe deposits? Remember Germany where they used paper cash for fireplaces. There’s another important question. Till when would cash lose more value or 90% of its value?

When gold is at a high, the yellow metal can be considered both an inflation and a deflation hedge. So gold does not answer our question, whether we are in inflation or deflation. The precious metal rises not only because of the confidence crisis (as the asset of the lost resort along with cash) but also because cash loses purchasing power. More questions? What are we hoarding today, cash or gold? Holding tangible assets has a limitation. Where and how should hoard them? Commodity ETF’s, how safe are they anyway? Do we know the difference between physical commodity-backed or paper-backed commodity ETF? How can we expect the large middle-class society to hoard gold when the last generation only taught us how to hold stocks? The majority of books are about equity valuations? When did you read the last commodity valuation book? Do they teach commodity valuation in business schools? How can we hoard gold, when we still are unclear why gold should go up, because of inflation or deflation?

The confusion continues regarding whether we are in for deflation or inflation. The unprecedented times make it harder to comprehend. Metal and food get expensive, but interest rates remain low. Inflation is not good for equities, but even equities don’t fall.

We are neither in an era of gold standard nor any other standard to naturally check the periods of excesses. When U.S. gets tired of doing quantitative easing, China steps in to back Euro and global assets. This pattern is one argument against a future period of deflation. Fiat currencies can only lead to continuing inflation rather than deflation. Gresham’s law states that bad money always chases away good, is likely to hold. This is why the ongoing time is likely to culminate in an inflationary recession that will force unsound money to be reckoned with.

According to Richard Mogey, Historically certain periods of inflation and deflation are combined with critical monetary and debt-related events that are different from the usual inflationary and deflationary rhythms. In a sense, these monetary cycles point to periods of important economic readjustments.

Periods of inflation followed by deflation economically depend on a standard, an expanding population, and demand. Historically the standard has been sound money. Population growth, freedom, and education have supplied more than enough demand. In a time of no standards or checks and balances, inflation was dominated in a way not seen historically.

The case of deflationary depression depends on the need to correct excesses and on the indications that the economic system will implode and collapse at a certain point. Unemployment would rise to double-digit levels or banks would fail to cause a liquidity crisis. Because of the lack of liquidity, the average person would value money over things and a deflationary depression would follow. This scenario assumes that governments will not support the major failing business with newly created reserves. This leads to a liquidity crisis and deflationary depression. Politicians don’t feel the need to correct excesses, rather prolong them.

The battle of inflation or deflation takes place as capital swings between the forces of self-preservation and the quest for profit. What kind of time are we living in today, one of self-preservation or one linked with a quest for profit? Well! Go to the malls and see how shoppers are expressing self-preservation. Society is not scared, it’s enjoying the illusion of more money and this is the reason cash is doomed to become worthless as we head into the inflationary bust over the next decade. The unfortunate part, it will take society a decade to wake up.