If the deflationists aren't really discussing consumer price inflation, what is it that they are really talking about? To figure this out, it is helpful to seperately analyze the two components of the deflationist argument, bank credit and money supply, since they operate in very different ways and combining them obfuscates the picture.
Since people don't take out a bank loan to buy a quart of milk or a tank of gas, but they do borrow to buy a house and financial instruments, there is a direct relationship between bank credit and asset prices. The effects of increases or decreases in bank credit are likely to show up relatively quickly in prices for real estate, bonds, and stocks. Only much lately are they likely to impact consumer prices and even then they will represent only one of many components (currency exchange rates being potentially far more important).
This proposed direct relationships between credit and asset prices and currency and consumer prices seems to be well supported by real world observations. In the late 1920s U.S. there was a massive increase in credit and strong bull markets in housing, stocks, and bonds, yet consumer prices were dropping. Even though the U.S. currency didn't float at the time, capital was flowing into the New York from around the world and if the value of the dollar had been market driven, it's exchange rate would have been rising. A similar picture exists for Japan in the 1980s, although there was an even more massive asset bubble and the Yen was experiencing a far more significant rise that the U.S. dollar would have had in the 1920s.
In contrast, the U.S. in the 2000s was a period of declining currency values, the dollar peaked in 2002 and lost more than a third of its value by 2008. Bank credit expansion during this period led to massive bubbles in real estate and related debt instruments, with the S&P testing its 2000 bubble high in late 2007. When bank credit began its severe retraction, prices for real estate, non-government bonds, and stocks had significant drops. Consumer prices on the other hand accelerated higher. One major reason was the rising price in commodities. Since commodities are priced in dollars, they will go up if the U.S. dollar goes down.
The other component of the deflationist argument, money supply, has an obvious lagged effect on consumer prices. Changes can show up many years later. An examination of a money supply chart from the 1970s illustrates this quite clearly. M3 growth peaked in 1971, yet U.S. consumer price inflation didn't have an intermediate term peak until 1974 and the final high wasn't reached until 1980. The large rise in M3 in 2008 isn't likely to have its full impact on consumer inflation until some time in the 2010s.
Since deflation inevitably follows serious inflation, the deflationists at some point will be correct that there will be deflation in the United States. Worrying about deflation now though is like closing your windows and turning up your heat in May because you are worried about a cold winter coming.
For notes related to this talk, please see, 'Inflation vs Deflation Argument' at:http://investing.meetup.com/21/Files
Organizer, New York Investing meetup