There is a lot of hand-wringing right now about something called "debt deflation". See... some folks... like our beloved Vox Day... think that debt deflation is a legitimate deflationary force that will render any inflationary force ineffective.
I want to explain why they're wrong.
Remember first what we're discussing here... its the size of the money supply... its a measurable... theoreticly anyway. Unfortunately in order to measure something you have to agree on what you're measuring. We don't.
Consensus is that debt is indeed part of the money supply. Consensus, typically, is wrong.
Debt is not part of the money supply and cannot be counted as such. Lets examine it.
Lets say you lend me 1000 dollars... and I go buy something with it. You handed me 1000 dollars in cash... or you wrote a check... or the money was transfered... whatever. In some way 1000 dollars was transfered to me. That money... has just been accounted for in the money supply. Even if you're a bank and you have the privilege of pulling money from thin air. Once it hits my accounts it is accounted for in what we call M2. The real money supply. Now... you have also added 1000 dollars in your accounts receivables... a debt. So that's a total of 2000 dollars. But wait... only 1000 exists. The debt doesn't exist. Its just future money that I pay you... that will be accounted for in the accounts of future M2. If you count the 1000 debt in the money supply... you've counted the same money twice. That's just bogus.
So... this is why debt deflation... is not a real deflationary force. See... sure... numbers are getting smaller.. but it doesn't matter... because they weren't real anyway. its like complaining that the supply of monopoly money is shrinking. its an oddity sure... but it doesn't matter.
on the other hand... governments handing out trillions of real dollars going into real accounts... that is in fact inflationary. Very inflationary. No amount of disappearing monopoly money will ever mitigate its effect.
Debt deflation is only scary to the bankers who are realizing that their accounts receivables are not nearly as reliable as they had assumed.
You can't spend debt. You can borrow money... you can sell debt... but think about what whores sell every day. Is that money to?
I think I am gonna write up an accounts receivable for 2 trillion dollars.... I will just pull it outta my butt. Then I'll wad it up and throw it away... cause no one is gonna pay it. Vox and the deflationistas will no doubt catch the vapors over the devastating effects to the money supply. Its ridiculous I know... just as ridiculous as counting debt in the money supply.
Now... clever Josh asks... "wait... you deposit 100 dollars.. and the bank turns it into 950 dollars of loans.. and the money supply is not increased?"
Of course its increased.. but each of those loans had a payout. Someone received the new money at which point it was accounted for in the M2. So the m2 increased by 950 dollars. But it did not increase by 1900 dollars. You can count the money in the accounts. You cannot count the debt created. So in the future.. when the dead beats refuse to pay the loans back... you can't claim its deflationary. It isn't deflation. The 950 dollars is out there...in various accounts... just not the banks.