First, the market is currently clearing debt. Personal debt and corporate debt is down.
Yes, the market is currently clearing debt. But most of the bad debt remains. In a historical sense overall debt levels are still elevated and bank leverage is still high. Most banks are insolvent, or would be if we bothered to do the accounting. There's gobs of fixed income debt issued by companies that no longer have the revenue to service that debt. Stock prices are extremely high relative to earnings.
Scary levels of bad debt remain. And even worse, it looks like the economy might resume sputtering along without coming anywhere close to clearing all of this bad debt. We're like Wile-E-Coyote running off the edge of the cliff. We know there's nothing to stand on, but we think that if we dont' look down it'll be OK.
Secondly, most of the bad credit WAS forced out of the system in 2000. That's why we don't have RandomCrapthatIthoughtuptogetpeopletobuyintomyIPO.com anymore.
I think
some of the bad debt from 2000 was cleared at the time, but not all. The numbers I've seen indicate that a lot of it endured. Not in the stock market, but elsewhere. Granted, I could be wrong here.
Regardless, overall debt levels rose throughout the 2000s without a comparable increase in underlying value. Even if we accept that all of the nonsense dotcom debt disappeared, it was more than replaced by other bad debt since then.
Third: A DEFLATIONARY collapse? Seriously? That's effectively impossible. For all the faults of the Fed, that's the one thing that it can and will prevent.
This is one of those orthodox economics views that really baffles me. And this seems to be the root of the issue. Economists always seem to assume that deflation is impossible.
But is it really?
Deflation is happening
right now. It's been happening since 2008. Since then banks aren't lending nearly as much, bank customers aren't borrowing nearly as much, the money supply is shrinking, and in the markets the only major asset class that has risen is cash and cash equivalents (gold, treasuries, high grade bonds). A dollar now buys more real estate, more stock, more commodities, more equipment. Manufacturers and retailers have no pricing power. Even CPI is flirting with the zero line, which is striking considering what CPI includes and omits.
And has the Fed been able to stop it? They've set interest rates to zero, and held them there fore more than a year. They've even tried monetizing some debt. Helicopter Ben has lived up to his name, and what has it accomplished? Nothing.
And if the Fed can be counted on to prevent deflationary collapses, why didn't they do so in the '30s?
Seems to me the Fed has a pretty poor record for dealing with deflation. Fundamentally, this makes sense. All the Fed can really to is try to persuade people to borrow more by making it cheaper to do so. But if people aren't willing to borrow, even at zero interest rates, what then?
