Deflation: How To Survive And Thrive In The Coming Wave Of Deflation [Paperback]

There is an excellent section on what a world economy experiencing deflation will be like. The key problem is that deflation encourages people to defer spending, which slows down economic growth and stimulates more deflation.

The final sections describe investment and business strategies for deflation.

Why, then, did I grade the book down two stars? First, because the case for deflation is so oversimplified as to be improbable. The extremely rapid growth of the surviving parts of the New Economy will create inflationary pressures on part of what it touches (from skilled employee wages to room to house its operations) to offset any deflationary impacts. And the New Economy will inevitably expand the stock market by expanding the growth rate of new technologies in the future.

Second, Dr. Shilling failed to explain that deflation can exist side-by-side with healthy inflation, and that you will have to shift agily to deal with both simultaneously. I thought each mistake was so obvious and basic as to be worth the loss of one star.

Even economists realize that economists cannot forecast the economy . . . or stock prices . . . or interest rates. So why are books by economists concerning the future of economic factors of interest? To me, these books provide scenarios of possible futures that we can each use to test our personal and business strategies.

But certainly it was startling to see all of the charts about rapidly declining commodity prices, that end just before commodity prices took off in 1999. It was equally startling to see descriptions of future increases in savings, just before the savings rate went even more negative in the U.S. In other words, the scenario was coming unglued even in 2000. What does that mean?

I think where Dr. Shilling misses the point is in the implications of having a two-tier economy, a rapidly-growing, technology-based one and a traditional one. The rapidly-growing one creates shortages which drive up prices (witness office rents in high tech parks and housing prices where technologists live) while the traditional one experiences deflation that reduces interest costs to make the shortages worse (making housing prices higher and driving up p/e levels for those companies with rapid growth).

He also misses the point that although we have way too much world capacity in many industries like steel and autos, we have too little in some areas (like electrical generating capacity in China, refinery capacity in the United States, petroleum production capacity in the Middle East, and certain types of telecommunications gear). Whenever we run into a shortage of something essential, prices can quickly go through the roof. This sets off the cycle of expanding profits, more consumption, higher stock prices, and renewed modest inflation.

His third major error is in being off on his timing of when Baby Boomer consumption will turn into savings and lower expenditures. What he misses is that Baby Boomers for the most part report that they do not plan to retire. So they see less need for savings now. Also, if you read Harry Dent, you will know that the Baby Boomer spending wave is scheduled to last about another 8 years in the United States before doing what Dr. Shilling forecasts.

Realizing that I am even more likely to be wrong in forecasting than Dr. Shilling is (as a mere management consultant), my suggestion for you is that you test your personal and business plans against how well they would do in deflation, low inflation, and high inflation. Any action that would work well in all three is probably going to be a winner. Investments in the most rapidly advancing areas of technology work in all cases, for example. On the other hand, bond investments (favored by Dr. Shilling) work outstandingly well only in deflation.

There is one complication to keep in mind. Your investments may be affected by inflation or deflation, but your business might be affected by the opposite. For example, if you are in an old-economy business, you may be wracked by deflation. But your need to hire software engineers may be affected by inflation. And your investments in bonds could be hit by either inflation or deflation. Naturally, if you have a choice, move into the promising areas, leaving the old economy behind except as a source of cheap goods and services.

After you have finished your thinking about how robust your personal and business strategies are in various combinations of inflation and deflation, ask yourself for what other factors you should do similar scenario-based thinking. Consider whether faster or slower rates of technological change could be another such variable. Then repeat the process. As a result, you can create much more irresitible growth for yourself and those you care about.

While at first I wasn't too pleased to be re-reading the original book in new packaging, I found it very valuable to review the numerous points Gary makes along with some updates on his insights.

This book is currently the best on the subject and makes a lot of sense. Some have argued that Gary is out to lunch, but he is the only one I know who is prepared to address these issues intelligently.

And for those who complained that "Deflation" did not have an index, they'll be pleased to know that this McGraw-Hill edition does!