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Strategies & Market Trends : Graham and Doddsville -- Value Investing In The New Era -- Ignore unavailable to you. Want to Upgrade?

To: Freedom Fighter who wrote (1518)	4/5/1999 11:29:00 PM
From: Oblomov	Read Replies (1) \| Respond to of 1722

Thank you for the Rothbard reference. I can see how slightly negative nominal rates could exist in the midst of a financial crisis. However, I'm not certain that negative nominal rates could exist for a long period of time without cash hoarding becoming widespread. This problem is known as the liquidity trap. When the general rate of price inflation is negative, a central bank is unable to target interest rates that are a reflection of the true time value of money without causing hoarding to occur. That is, in a deflationary period, the "natural" level of interest rates would be negative. However, in order to encourage the participants in an economy to keep money in the system (vs. hoarding), the central banker must keep rates at or above zero. The problem with this is that interest rates, at zero, would be too high to stimulate economic growth. And if the rates are allowed to become negative, hoarding occurs, which further worsens the deflation of the general price level. In his book _Deflation_, Gary Shilling forecasts deflation on the order of 2 per cent per year over the next decade. If this is the case, the deflation may not even be perceptible until we are well into it. Shilling notes that the trigger for deflation will be a bear market in stocks. A bear market in equities would require the current crop of investors to become savers, thus reducing consumption. I believe that our system could function well under a mild deflation scenario. A severe deflation would undoubtedly destabilize our economy, however. AA