When looking at the European debt crisis, and even before that the Global Financial Crisis, people constantly described the risks as being shown through deflation – if we experienced deflation monetary policy must do “all it can” to turn things around and help to boost the economy.
The lack of deflation around the world in the face of these “banking panics” was seen as an indicator that we were not facing the same sort of crisis, and that as a result there is no real role for central banks. Now, in terms of direct monetary policy is may be the case, depending on our view regarding what is going on and how institutional settings are different from the Great Depression. However, the idea that a banking panic would lead to deflation directly holds no weight. From Essays on the Great Depression by Bernanke we have this result:
Banking panics had no effect on wholesale prices. This … result is important, becuase it suggest that the observed effects of panics on output and other real variables are operating largely through nonmonetary channels.
The two large crises we have faced in recent years WERE NOT failures on monetary policy, and monetary policy models were not appropriate for trying to understand them. They provided an example of a failure of the second function of a central bank – the lender of last resort function. A lender of last resort is supposed to be sufficient to avoid these banking panics, and it was (and in the case of Europe is) the failure to appropriately take on this role that has led to these crises.
And the fact that deflation didn’t appear, but output fell sharply, is consistent with this explanation of the crisis. And consistent with the mainstream economist worldview regarding policy. That is nice.