I think this only backs up the inflationists argument.
Just like our current bust was preceded by the boom, so will hyperinflation be preceded by deflation.
You asked ‘what happens when the multiplier is stuck below 1 and all traditional monetary and fiscal policies no longer work ?’.
The answer will be ‘print more money’.
Please note, I’m not saying it is the *right *answer, just the one that will emerge.
Consequently, just like the boom took years to turn into a bust, this injection of cash will take time to turn inflationary.
I think a question you have to ask is, after they have tried to solve the <1 multiplier by adding more cash into the system, what happens when the multiplier goes >1 with all that extra liquidity sloshing around ?
It is the very response to deflation which will cause inflation.
What is interesting to me is that the money multiplier peaked just as Mr. Greenspan took over. Since then, and despite his efforts at pouring liquidity into the system, it has been downhill all the way. What this says to me is that if money is not priced correctly (i.e. relatively expensively) it is not put to productive uses, but rather it is put to easy uses. What we have had is speculative excess starting in the 1980s, but really getting going in the ZIRP era. Money has not been invested, it has been gambled, because it was so cheap there was an under-round - it didn’t matter what you gambled on, as long as you gambled on lots of things and often enough, some of them were bound to win by enough to see you in profit. The result of this is that there is no incentive to go through the hard work and risk of investing in productive capacity. It is far less risky to make gambling profits. Mr. Greenspan in his efforts to prevent recessions has ended up killing investment.
We have not added trillions of dollars to the economy,
we have added trillions of dollars to the banks.
And because the banks are bankrupt, they are holding onto the dollars in an effort to shore up their balance sheets.
Consequently, only a tiny percentage of the freshly minted cash is seeping out.
So what are they going to do now ?
Answer : Print even more cash until the tiny percentages begin to make a difference.
Unfortunately, they are just going to keep handing this money to the banks.
When the tiny percentages start to add up and make a difference to the economy, the banks will begin to gain confidence in lending again.
However, holding so much cash, they are going to flood the economy with credit once more.
 The banks could also start lending en masse after their balance sheets have been ‘repaired’ to the extent that they feel safe in resuming business as normal.
This has been the crux of the problem.
In an effort to help the economy, the FED is giving money to the banks - not to the economy.
They are **not **the same things.
I took the decline over the years as more a function of the growth of the shadow banking system. What spooked me about the decline back below one was discussions I read in 2008 and 2009 about how central banks deal with balance sheet recessions. With the collapse of the shadow banking system in 2007 /08 and the resulting collapse of system liquidity the initial dip below 1 in 2008 was not unexpected, as were the steps taken to reverse the dip.
Based on these discussion I was expecting the multiplier to get stuck at 1.1 or 1.2 and stay there while the economy ground through a multi year L shaped recession and for fiscal policies to have little or no effect on the outcome. But if the slip back below 1 is not purely a technical artifact of other sterilized or non-sterilized monetary policies then this is a very very bad sign. This would mean that the monetary control system is completely broken. The financial system by its very nature is a self repairing system but the monetary system is a very different beast. This might explain Bernankes surprisingly forceful remarks on the Hill last week. This would be a far worse position than Japan in 1998.
So it looks like Basle II which was designed to up the financial system ratios by a factor of two or three as a cheap painless way to deal with the inevitable Boomer liquidation and draw down over the next 20 years has ended up breaking the central banking system that had been carefully built over the last 100 plus years.
It may be that currency imbalances end not with a bang, but with a whimper. If a monetary system falls over, is it possible to pick it up or is it the shotgun and the knacker’s yard? We may see SDRs or some other basket mechanism take over, we may see a return to a pegged standard (as gold was), but it is pretty moot what the mechanism of exchange is - if a country runs a balance of payments deficit or surplus, it can only carry on so long (with ‘so’ being a very flexible number! - first the Japanese and then the Chinese were prepared to finance the US BOP deficit).