From a speech by John C. Williams, Executive Vice President and Director of Research, Federal Reserve Bank of San Francisco, Presentation to the Seattle Community Development Roundtable. Via Mike Konczal blog Rortybomb)

To me, the danger is that weak demand and excess productive capacity could cause inflation to fall further, taking us perilously close to deflation….Few of us have experienced an extended period of deflation, but it’s not pretty.  The New York Times recently ran an article about how ordinary Japanese citizens coped with deflation.  It described how people stopped buying homes, cars, and other discretionary items because they could be had for a cheaper price in the future.  Businesses postponed investments because the returns from holding cash were better than what they could reliably expect to earn by expanding operations.  The article conveyed a pall of gloom that hung over the Japanese economy, sapping confidence and further fueling a deflationary hesitance to spend…

Figure 3: Rising Risk of Deflation

The impact of deflation on the stock market would not be pretty. Valuation would fall quickly and measurably as the profit outlook would rapidly deteriorate and investor confidence would disappear (see S&P 500 P/E Ratio at Troughs: A Detailed Analysis of the Past 80 Years)


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