Saturday, October 10, 2009

What Deflationists May Be Missing

"If nobody recognizes a defaulted debt on their balance sheet, does it exist?"

Suppose, for the sake of argument, that there is a world in which banks are allowed by their regulators to pretend their default losses simply do not exist. And, even more outlandishly, some of these banks are allowed to sell heavily damaged loans to their central bank at nearly their full original price.

What does "deflation" mean in such a world? Not much, as it turns out. At least from a monetary perspective, because money is not being destroyed at nearly the rate that would be expected or predicted by the size and rate of the defaults.

This is the world in which we currently live. Trillions in probable and provable losses quietly exist, out of sight, on the balance sheets of the Federal Reserve and other financial institutions. If they ever come out of hiding and onto the books, I think the deflationists will be proven correct beyond all doubt.


  1. Anybody have comments on this?

    Here's the link to the article in case you missed it.

    I'm trying to put this puzzle together and I'm sure I don't have all the pieces.

  2. hey, shasta, good to see you posting, i wondered where you've been...

    i briefly scanned the article when i found it yesterday; i am a fan of chris martenson's analysis, which i always find incisive, especially with regards to the activity of the Fed, even though i have a problem with his ideology...that said, i agree with his premise in this article that the "QE" provided by the Fed is propping up the financial sector; and that the liquidity goes into the markets because it has no where else to go, masking the underlying deflation...and it thru this vehicle and the mark to fantasy accounting changes that the zombie banks continue to stand...

  3. here's one from jesse:

    The Speculative Bubble in Equities and the Case for Deflation, Stagflation and Implosion

    As part of their program of 'quantitative easing' which is another name for currency devaluation through extraordinary expansion of the monetary base, the Fed has very obviously created an inflationary bubble in the US equity market. Why has this happened? Because with a monetary expansion intended to help cure an credit bubble crisis that is not accompanied by significant financial market reform, systemic rebalancing, and government programs to cure and correct past abuses of the productive economy through financial engineering, the hot money given by the Fed and Treasury to the banking system will NOT flow into the real economy, but instead will seek high beta returns in financial assets.

  4. Thanks rjs, I don't post much because I usually have nothing useful to say, only questions, which is why I posted this Chris Martensen article.

    Here's a response to Chris's article which I found here:

    """""Where Chris’s thinking here goes wrong is in believing that real losses can be hidden forever – they cannot. Yes, stocks are overvalued, but they are still valued nearly a third less than they were in 2007. Yes, losses can be taken more slowly over time much as Japan has done, that’s a choice… but failing to take one’s mark or marking assets to fantasy will both eventually unwind as the cash flow (income) to support never ending credit growth (debt) will manifest itself over time.

    There are only two ways to pay back debt, it is either repaid as contracted, or it is defaulted. All debts get repaid, with interest, in one way or the other. A collapsing dollar is one “other” way, but a collapsing dollar is NOT inflation, it is a loss of confidence versus real inflation that is an increase in the total supply of money and credit. Real inflation is supported by a requisite increase in earnings. It requires income to service debt and incomes have simply not grown at the same exponential rate as debt.

    What is confusing the issue for almost everyone is the shadow banking world of derivatives… derivatives both increase leverage and credit dollars. While the money supply appears to not have shrunk that much (yet), you should be aware of what’s happening to derivatives and leverage. JPMorgan, for example, is the world’s largest holder of derivatives. At it’s peak late in 2007, JPM held more than $90 trillion in notional derivatives. Today they hold, at last report, approximately $82 trillion. Thus they have been deleveraging big time, but are still leveraged beyond anyone’s previous wild imagination…

    I think a better analogy than Chris’s “sound of one hand clapping” is the old saw about a tree falling in the woods with nobody around to hear it. The tree still fell and sound waves were still produced, it matters not that no one was there to hear it, just as it matters not that companies are refusing to take their marks – those losses are going to happen whether they want to hear them or not…"""""""


    check the top two stories. g.s. is old news. but the j.p. morgan mention fits right into this thread.