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Should you be worried about deflation?

By: Investor Solutions

Frank Armstrong, III, CFP, AIFA

It’s been a slow news week. The gulf oil well spill is capped, we are all sick and tired of Bristol and Levi, and Lindsay Lohan is safely off in rehab. So, the financial press is cranking out stories about a possible Deflation.

Who knows what to believe? I generally hate making predictions, but, I’m not spending much time worrying about deflation.

We might all argue that the real estate bubble has further to go before we see equilibrium re-established. Otherwise, most of us are not feeling it. Check the price of gas, hospital bills or college education and tell me you see deflation at work.

But if, and it’s a big if, the government were to allow a general deflation it would lead to a global economic nuclear winter. We don’t want to go there.

Capitalism will not work in an atmosphere if expected across the board price declines. No one would buy anything today if prices will be lower tomorrow. The economy would come to a grinding halt. There are other problems as well. Debtors will find it harder to repay in appreciated dollars, and corporate profits will be squeezed.

The last time we experienced a true deflationary period was the Great Depression. The US Government did all the wrong things after the stock market crash of 1929 triggering a decade of misery. But, we have learned a lot about how economies work since then.

Helicopter Ben would emerge and sprinkle enough money around to prevent a widespread price decline. Ben gets it. Of course, any first year econ student could tell you: Dump enough dollars into the system and prices will react. It shouldn’t be difficult to provide enough fiscal stimulus and monetary expansion to prevent a deflation from happening.

So, if you are losing sleep because of deflation, mellow out. You are more likely to be bitten by a black swan.