Heading towards Inflation & Deflation (at the same time)
Stagflation was fascinating to economists, who couldn't figure out how you got inflation during a period of stagnant growth and high unemployment during the 1970's.
We're heading into another period where economists will be scratching their heads - a period where we have both inflation AND deflation. The Phd's will be perplexed and shocked. The talking heads on CNBC will be trying to explain a concept they have no idea about, but it will help ratings of shows like Mad Money.
The answer is quite simple, we have an economy that is heavily dependent on foreign goods, but our bubble was in housing. Now I haven't heard of a Chinese made home, so home prices will continue to fall as the market is entirely in the U.S., but everything that goes into making a home, except lumber, is made outside the U.S. (actually that's not entirely correct, I believe Owens Corning makes fiberglass in America still). The point is valid though - a large number of building products, from nails to vinyl flooring, to cheap appliances are made in other countries.
Existing home prices will continue to fall (as the market is still imploding), but new home prices, pretty much everything sold at WalMart, and food (heavily based on petroleum prices for shipping/machinery) will continue to rise.
Ecomomists will argue - are we seeing inflation or deflation? Newsweek will run that exact headline, and Krugman will demand more spending (I haven't seem him ever argue the opposite), but the fact will remain we will be experiencing both.
My greatest fear is when oil breaches $100/barrel. We already have 10% unemployment and oil is above $80 - almost any perceived growth has oil moving higher every day and that will be the catalyst for inflation followed by a weaker U.S. economy and the inflation/deflation scenario I believe we are inevitably headed for.