Why the Setup is Ripe for Deflation

History shows that each major deflationary episode was preceded by “a major societal buildup in the extension of credit and the simultaneous assumption of debt,” as Robert Prechter’s must-read Last Chance to Conquer the Crash notes.

With that in mind, review this May 10 CNBC news item:

Even with rampant inflation and rapidly accelerating interest rates, household borrowing climbed to start 2022 and hit a new record. …

Consumer debt and credit rose 1.7% in the first quarter to $15.84 trillion. [emphasis added]

So, the setup is ripe for a historic credit contraction, i.e., deflation.

Around the time of the January tops in the Dow Industrials and S&P 500 index, the January Elliott Wave Theorist warned about record debt and a host of other factors which indicated a historic financial optimism that was set to reverse:

A stock market peak of Grand Supercycle degree hasn’t occurred for 302 years. Completed wave patterns, throw-overs of multi-year channels, euphoria among investors, confidence among consumers and economists, an expanding economy, low unemployment figures, record debt and a record-low quality of debt all indicate a historic positive extreme in social mood, greater than those of 1720, 1835, 1929, 1937, 1966-1968, 1999-2000 and 2007. The stock market is spectacularly overvalued. Stock ownership is the broadest in the history of humanity, both in the U.S. and abroad. Research is derided, while passive investing is lauded as the road to riches: Just buy funds comprising indexes and ignore the relative health of component companies. A hundred years ago there were only two stock indexes, one for every 1000 stocks. Now there are 70,000 indexes for every 1000 stocks. In 2009, there was one cryptocoin. Now there are thousands of them, mostly just clones of the original. Finance has intoxicated the public. The number of types of vehicles with which to speculate is unprecedented. The number of derivatives is unprecedented, and the aggregate value of those derivatives is unprecedented. The complexity of the investment marketplace is unprecedented. The number of investment manias in the past quarter century is unprecedented. Credit spreads are the lowest in history, and in some cases negative. European junk bonds recently had lower yields than U.S. Treasuries. Similar conditions have appeared in a few rare instances in history and — although past episodes have been far smaller in scope than at present — they have always led to a substantial crisis in the financial system.