Deflation Nation

Business Week ^ | May 26, 2003 | Brian Bremner and Irene M. Kunii

[Steven W.]

America is not Japan

[sarcasm]

What profound insight. Do you have any other words of wisdom?

[Mr. Jeeves]

Anyone who paid the going price -- about $1.5 million -- in the late 1980s for a house in the upscale suburban Tokyo enclave of Setagaya-ku, for instance, knows the pain: The house is likely worth no more than $900,000 today, often less than what the owner owes on the mortgage. Michiko Kanai thought the three-story apartment building she put up 15 years ago on a plot of land her father owned would see her through to retirement and allow her to leave something for her children as well. Instead, her debts on the building likely exceed its value by a half-million dollars because of the fall in property prices.

Coming soon to a city near you. The San Francisco Bay Area is full of people who are going to be badly underwater if there is even a 20% drop in prices - at 40% there will be an immense tidal wave of foreclosures. Thank the banks and their "qualify every borrower who can breathe and chew gum at the same time" philosophy in recent years.

[nwrep]

We could head down the same path if we are not careful. There is only one solution to this problem, briefly alluded to in the essay above, and that is de-regulation on a massive scale unseen since the creation of the post-war welfare state.

Scrap all regulations related to capacity, workers' rights, workers' compensation, OSHA, license and regulatory fees, various permits, and zoning of commercial establishments. Let unadulterated capitalism as envisioned by Adam Smith take hold, and prosperity will return.

[Oberon]

Scrap all regulations related to capacity, workers' rights, workers' compensation, OSHA, license and regulatory fees, various permits, and zoning of commercial establishments. Let unadulterated capitalism as envisioned by Adam Smith take hold, and prosperity will return.

There have been systems like that before. Charles Dickens wrote about them a good deal.

[Capitalism2003]

unadulterated capitalism....and a world gold standard..economic freedom and honest money...both needed before we can move forward.

[solzhenitsyn]

America is not Japan.

Yup, that is a geopolitical fact. But we have our very own real estate bubble developing, at least in certain urban markets. And instead of the huge savings that have cushioned Japan's consumers, American consumers have a mountain of debt. I doubt that it would take near as much of a push in this country to tip us into deflation.

[supercat]

While there are many bad things about inflation and some good things about deflation, inflation and deflation affect people's timing of purchases. If people perceive that the price of a good will go up tomorrow, they are more likely to buy that good today (to beat the price increase). If people perceive that the price of a good will go down, they are more likely to wait and buy the good tomorrow (to take advantage of the price decrease).

In the mid-1980's, video games experienced extremely major deflation which wiped out many companies in the industry and crippled many others. Once people got used to the fact that hot new games would drop from $25 to $10 after a few months, they started simply ignoring the new releases and only buying the cheaper, older titles. This resulted in the newer games being marked down more quickly (since larger numbers remained unsold) which in turn encouraged more customers to shun new games for marked-down ones.

It should be noted that many businesses, including--I believe--video games now include certain "deflation" protections. For example, many magazine and greeting-card publishers buy back unsold merchandise at full retail price. This tends to discourage retailers from seeking to unload their merchandise at steep discounts to customers who would be willing to wait out good prices.

[killermosquito]

Don't forget to smash the unions to smithereens while you're at it! I live in the Buffalo area and the relationship between unions and the politicos have practically destroyed this region.

[Beck_isright]

Which reminds me that this is a great time to short REIT's while the idiots still proclaim (like the tekkies did) "this could never happen to our industry"....

[oceanview]

real estate values in the US will adjust only when interest rates rise, since buyers base the price they are willing to pay on the monthly mortgage payment, not on the actual price they are paying for the property.

japan has no internal consumer based economy of their own, and with China taking their export markets, they are in trouble. their propensity to save is hurting them. they should be taxing savings. hold money in an account, you pay a tax on it every year. encourage people to spend. its radical, but they need it.

[supercat]

Yup, that is a geopolitical fact. But we have our very own real estate bubble developing, at least in certain urban markets.

I think I'll be renting for awhile, until the bubble bursts. While the monthly payments may be the same for a $180,000 home financed at 5%/30yr as for a $140,000 home at 8% or a $98,000 home at 12%, one has a lot more options with the latter than with the former. If one buys a $180,000 home at a 5% fixed-rate mortgage and property values fall while interest rates rise, one may be pretty well stuck. The $1000/month morgage payment may be affordable, and one might keep the home even as its equity went negative, but one would be quite unable to move. By contrast, if someone gets a $98,000 home at a 12% rate, a drop in interest rates would allow one to reduce the effective cost of one's home, and rising real-estate prices would give the owner more options.

[Vigilanteman]

Deflation is slowly starting to be talked about here. The gorilla which nobody wants to talk about is China. For years, Japan fought to keep industry at home or at least in allied countries such as Malaysia and Thailand and limit China to production, not technology transfer. That stance was admirable.

But the stampede of non-Japanese multinationals to not only produce in China but transfer their technology as well (workers in their home countries be damned) left Japanese multinationals with the choice of screwing their own workers and following suit or falling further behind in the race to drive down costs.

In the end, they decided to go for reduced costs big time, while focusing job reductions on the 45-60 year age group who drew the highest salaries.

Meanwhile, the rest of the country apes America in Wal-Martization and China earns more capital to build up a military to dominate Asia. Ain't internationalism grand?

[oceanview]

right, americans are going to work in slave labor camps like China.

[Stay the course]

Another reason our higher debt makes deflation more of a threat is that deflation increases the real value of debt. Your home decreases in value, and your paycheck is smaller, but the payments on your mortgage and credit cards stay the same.

On the other hand, our low savings rate should make deflation easier to prevent. If the government increases the money supply, Americans are more likely to spend, and Japanese are more likely to stuff the money under their mattresses.

In theory, deflation might be easier to prevent here, but harder to get out of once it starts.

[supercat]

real estate values in the US will adjust only when interest rates rise, since buyers base the price they are willing to pay on the monthly mortgage payment, not on the actual price they are paying for the property.

I know this is how most people think, but to my mind it's a recipe for personal financial disaster. Far better to get a $98,000 12%/30 yr mortgage after the bubble bursts than a $180,000 5%/30 yr mortgage before, even though both mortgages have the same $1000/month payment.

[1066AD]

I'm no economist but if someone was living on their savings (I wish) which were mostly cash or near cash and had little or no debt, seems to me they'd be sitting pretty - in principle at least. A rather general scenario I know, but am I missing something ?

[fat city]

...pluck your raw fish from a revolving conveyor belt.

Sorry, I just don't see the downside.

[nwrep]

There have been systems like that before. Charles Dickens wrote about them a good deal.

Oberon, you are right, Dickens described a 19th century version of my prescribed scenario, but remember, it was a 19th century version. If we were to scrap laws enshrined since, lets say 1965, you would not have such a huge problem. After all, the class system that reduced the value of a worker's life relative to that of the capitalist does not exist in this country.

I would submit to you that the catastrophic injustices envisioned by you will not come to pass should such a reform be carried out. Entrepreneurs today are far more responsible than the left gives them credit for.