US Prices Drop For First Time Since 1955

This was the title for an April 15th Financial Times article following the March Consumer Price Index (CPI) report showing a .4% year-over-year decline. Think about the significance of this statement for a moment. Prices have risen for 53 consecutive years.....53! And you probably thought that Joe DiMaggio's 56 game hitting streak was impressive. However, anyone that has taken an introductory economics course learned that cyclical patterns will lead to either rising or falling prices as the economy expands and contracts. Every basic textbook reminds us that rapidly expanding economies lead to full capacity utilization driving prices upward. The opposite should also hold true as economies slow and these pressures ebb, theoretically pushing prices down. Oddly, this basic free market principle does not seem to apply given inflation's impressive 53-year winning streak.

How is it that prices have continually risen despite the recessions and economic shocks of the past half century? Enter the Central Bank, affectionately dubbed the Federal Reserve, although it is neither Federal nor does it maintain any significant reserves. The Fed, run by a consortium of private bankers, has designed a debt-based system that requires ever-expanding prices to fuel the repayment of all outstanding loans. Although this may sound confusing, bare with me for a moment. If you could call a timeout and pause all economic activity while simultaneously requiring the immediate repayment of any outstanding debt, the global economic system would collapse. More simply, the amount of debt in circulation far exceeds the amount of cash currently in the system, and the ability of debtors to repay their obligations. This makes complete sense when examined from the perspective of an average middle class household. It may have modest savings, but a huge mortgage and credit card debt, which is reliant upon future income to repay, eclipses whatever savings accumulated. These future earnings will not exist without a continuously expanding money supply. Inflation represents the Fed's best and only tool to ensure that enough money is circulating through the system to repay these future obligations.

So the Fed's 1%-2% targeted annual inflation rate is beginning to make a little more sense. The bankers have convinced the general public that our economy cannot achieve sustainable growth without modest inflation, which is a complete a lie. Deflation, per the Fed's mandate, should be fought with all the tools available at its disposal. In a true deflationary environment, income streams will contract, inhibiting businesses and individuals alike from repaying their respective debts. This results in skyrocketing defaults and the failure of every major bank that is reliant on future inflationary earnings for their debtors to repay current obligations.

Deflation is best compared to a forest fire, painful and destructive in the near-term, but instrumental for building a solid foundation for future growth. Other than serving as a pricing mechanism, it encourages saving (through increased purchasing power) and proper capital formation supported by these savings, rather than debt. However, given the current system's complete over reliance on debt, any prolonged period of deflation will also lead to a complete collapse of the system. To further simplify, the current monetary system is structurally flawed and bound to collapse because it violates the most basic economic covenant; that prices must rise and fall with the cycles.

This brings me to my final question. Is the foundation of modern finance built on a flawed theory "that a dollar today is always going to be worth more than a dollar tomorrow?" After all, in a true free market, shouldn't bank lending models at least factor in for the possibility of a deflationary environment? Economic principles and common sense tell us that nothing happens 100% of the time, not even inflation. The most recent monthly CPI report proves this fact.

I realize that this post may seem overly theoretical, but I believe that these questions are essential to understanding the issues that plague our economy and declining standard of living. Make no mistake about the future of this topic, however, as people begin questioning the viability of the current monetary system.