Inflation, Deflation and where we go from here

So, as of now we have the USA Federal reserve having setting Interest Rates at 0.25%. Lower than they have ever been before. We have Mervyn King, Governor of the Bank of England saying that next year inflation may undershoot the 2% target by more than 1%, prompting another letter of apology to Politicians who profess to know where the economy is headed.

So, since July 2007, the patient's, the world economy, prognosis has become increasingly bad.

First we had the Credit Crunch, supposedly a "local problem", confined to the USA, caused by lending of money by banks in an irresponsible manner. That is, they loaned money to people who could not afford to pay, we called it "Sub-Prime". In the UK we smiled and said "Only in America"

Until

We got hit by two words "Northern Rock". Here was the UK's answer to Sub Prime, a Bank giving mortgage loans of upto 125% of the value of the property that people were buying. Buying with a loan of that size has a single assumption -- that the value of property will continue to increase until the value is at least 125% of the purchase price. Looking at property values in the last 12 years you see a rising trend, with prices increasing year by year, until quarter 3 of 2007. What happened in Quarter 3? Northern Rock -- and a loss of confidence.

Since then, house prices have headed only one way -- down. Currently we are about 15% down from where we were, yeaterday the Barclays Bank boss said that he expects that to double to a decline of 30% from the peak, so if your house was worth £200,000 in July 2007, by the time we reach the bottom of this that business leader expects it to be worth just £140,000 and if you bought that house in 2006 or 2007, you'll be in negative equity for several years to come.

Then

It got worse. Banks, those bastions of a Capitalist Society started losing their market value, sometimes in dramatic fashion. Lehman was the second big bank to go, the first was Bear Stearns, and suddenly Investment Banks are rare beasts, driven out of business by exposure to CDO's, SIV's and other ways of taking debt off their Balance Sheets