Quote from: dejayl on July 24, 2010, 07:49:45 AM

Quote from: Babylon on July 24, 2010, 06:35:34 AM

deflation of house prices is a bad thing because houses are bought on credit. Deflation of car prices would be bad as well, and for the same reasons. If you have a loan which is guaranteed by something which is worth less than the loan then the temptation is to walk away from the loan. This either leads to possible severe losses for banks or inescapable debt, depending on the structure of debt in society.

The idea here is that with 'sound money', such an unsustainable amount of credit would not have been extended in the first place, and there would be no sudden and inevitable deflation during a time of massively increased indebtedness.

If deflation is more or less steady and predictable, then I don't see why it wouldn't be factored accordingly into interest rates. This is done all the time in today's inflationary environment.

Yep, Babylon is referring to a credit boom which eventually leads to a credit bust. He is right that it is "bad" when things bust, but he must also then recognize that the "bad" began when credit was extended too easily in the first place, driving up prices in the first place.

Without such easily available credit, prices wouldn't go as high in the beginning, and it would be easier to save up and purchase goods with savings instead of credit. The problem with a credit bubble is that as prices go higher, more credit is required to purchase the assets, which drives up the prices, which requires yet more credit.

Under sound money, credit would be limited by savings and investment, and the nature of sound money means that as society gets wealthier and goods get cheaper in real terms, they also get cheaper in nominal terms as well. Price deflation is a good thing whether you're a creditor or debtor. If you borrow money and prices get cheaper due to an increase in total wealth, it means that your share of the pie is fixed. You borrow 1% of the pie, you pay back 1% of the pie. You don't start out owing 1% of the pie and end up having to pay 10% of the pie.

This is instead a problem of monetary deflation. If the supply of money decreases while the total wealth in society remains fixed (or also decreases), then what happens is that if the borrower borrowed 1% of the pie (i.e. one house), and prices declined by 90% due to a large credit bust, the borrower would end up having to pay back 10 houses to the creditor. The problem here is that the price decrease is due to a monetary contraction, not an increase in society's wealth. Therefore, he actually has to pay back 10% of the pie. This is where the imbalance comes into play.

The difference between these two forms of deflation (and the circumstances under which they arise) is where many people get tripped up. They look at Bitcoin, see that it is price deflationary, and then attribute all the problems of monetary deflation when they are talking about two different things.