[Would a recessionary collapse of the supply of goods available in the US affect the dollar’s privileged status? Would a banking crisis in the US threaten the privileged position of its currency? If demand for dollars as a reserve asset were to diminish, that can only be seen as most bearish for its exchange value. If dollar creditors finally recognized the impossibility of their debt every being repaid, would they start to sell their assets? Or would they sell Treasuries and start buying other riskier US assets, in an attempt to triage the losses by propping up the system a bit longer?
The inflation-deflation issue is indeed quite puzzling due to the myriad of interacting factors, both correlated and cantilevered. I do not mean to suggest that the inflationary response that engendered by a deflationary crisis is in any sense a sustainable solution to the excesses of the preceding boom. Such a program would surely result in a hyperinflationary recession, rather than a deflationary one. The Austrian view is that that resource mis-allocations of a credit-driven boom require a recession to be cleansed. This tells us that distortions in the real economy cannot be erased by changes in monetary policy (conventional or un-).
As a policy recommendation, to allow the deflationary bust to do its work would be the best path. But as financial writer James Grant has written, if there is one thing that governments excel at, it is debasing their own currency.
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