Does QE Create “Deflation”? |.
Malinvestment vs. Overinvestment
Recently we have come across a very interesting article by Lee Adler, which discusses the connection between the Fed’s money printing activities and the shale oil boom. In this context the possibility is mentioned that QE may actually contribute to “creating deflation”.
Obviously, we agree with many, in fact with the vast majority of the points made by Lee Adler in his article. Money printing always diverts investment into lines that later on turn out to be unprofitable, precisely because it distorts relative prices in the economy. Lee Adler should also be commended for drawing attention to the fact that the money relation – i.e., the purchasing power of money – depends not only the money side of things, but also on the goods side.
In an unhampered market economy in which a market-chosen money is employed, it would be reasonable to expect that prices will tend to gently decline over time, as productivity increases will as a rule exceed whatever additions to the money supply occur (for instance, if gold were still used as money, its supply would increase by roughly 1.4% per year and it is a very good bet that economic productivity would be rising at a faster pace).
Thus, a mild, persistent decline in the prices of most or all goods and services is a hallmark of a progressing economy. Needless to say, anyone who has observed the computer industry in the wider sense over recent decades – the productivity growth of which has been so large it actually outpaced the effect of money printing on prices – will realize that no business needs rising consumer prices to thrive, and that consumers do not “postpone their purchases” due to falling prices. The entire idea that a “deflationary spiral” could somehow harm the economy is erroneous (however there is a reason why today’s policymakers are afraid of falling prices, which we will briefly discuss below).
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