Each day it seems we hear more and more talk of deflation on the horizon. After hearing so much about inflation and fears associated with it, news of deflation almost sounds like relief is at hand. Generally, we fear inflation as the prospect of a higher cost of living threatens our standard of living. The more it costs to live the less disposable income we have. Some will argue that inflation also drives up wages which serves to counter the higher cost of living. That, however, assumes low unemployment, which right now is nowhere in sight.Perhaps to better understand both inflation and deflation, we can look at the relationship of each to debt. In one case debt is good. The other? . . . Bad - Very Bad!If there was ever a time being in debt was good it would be during periods of high inflation. If you borrow today's dollars to buy goods at today's prices, that debt is fixed in whatever currency you borrowed to make the purchase. In our case, that would be dollars. If inflation then ran a true course, the dollar would steadily lose purchasing power. Let's make a ridiculous illustration of how this works. Let's say you buy a house for what it would cost to buy 50,000 gallons of milk. In theory, then, the dairy farmer who has 50,000 gallons of milk could trade the milk for dollars and pay cash for the house. But the dairy farmer says, Even though inflation is low now, I'm seeing massive inflation ahead. I believe coming inflation will be greater than the cost of interest on the loan. So instead of selling 50,000 gallons of milk and taking the cash to pay for the house, the farmer borrows an amount of cash equal to the value of 50,000 gallons of milk. Then we go through 7 years of high inflation and the price of milk doubles. Now the farmer only has to sell 25,000 gallons of milk to get enough cash to pay for the house.Yes, it is a very simple illustration, there's a risk to be weighed. If you think inflation will rise faster than the interest rate you agree to pay, you come out ahead by borrowing. If you think inflation will be lower than the cost of borrowing, then you lose! What if you see future inflation at a negative rate? That's deflation. Within the same example, deflation rising at the same rate as inflation, borrowing would be foolish as 7 years from now the house the farmer could have bought for 50,000 gallons of milk now costs 100,000 gallons. That's 4 times what it would cost in the opposite environment of inflation.Now it's easy to see the relationship between inflation and gold. If it was easy to store 25,000 gallons of milk for 7 years, you cold buy milk as a store of value. Gold may be the easiest commodity to store as it does not require anything more than a shoe box or a small safety deposit box to pack away even millions of dollars. It's also easy to see why, at first signs of deflation, gold prices could fall. I say at first signs because I don't believe deflation will cause gold to lose value. In a deflationary environment, cash is king. If you hold onto it, whatever it is you could buy with it today is going to be cheaper tomorrow. If you believe gold is a cash equivalent then holding gold is like holding cash.Now for argument sake, let's say gold is a commodity just like milk. According to Gary North in a widely circulated 2006 report, Gold and Deflation, there has never been more than 12 consecutive months of deflation. And what follows deflation? You got it . . . Inflation! So, at what point in the short deflationary cycle do you begin to buy gold or any other commodity in anticipation of the return of inflation? My point is, if you anticipate inflation for the longer term, smart investors will always be looking for an opportunity to accumulate gold. If the price dips down a bit a buyer is likely to take advantage, driving the price back up. Now, let's move beyond the entire argument as to whether or not deflation is good or bad for gold and consider whether deflation is even an option. If debt is bad in a deflationary environment, how do you think the Fed feels about deflation? We're $14.3 trillion in debt and rising. The Office of Management and Budget forecasts that, by the end of fiscal year 2012, gross federal debt will total $16.3 trillion. Thus, the debt will equal 101% of gross domestic product, which represents a milestone in the U.S. economy.How do you think the farmer feels about deflation? How about the markets? How well will Apple profits post when IPads are half price? If cash is king and the dollar is strong, what will that do to profitability of our international companies? I think the Fed will fight deflation with everything it's got. More stimulus, even lower interest rates, more buying of distressed assets, more quantitative easing, more of everything they've been doing to prevent the double dip.So, before we even have the discussion about whether gold prices will rise or fall in deflationary times, let's consider the prospects for deflation are very small given the Fed's fear and its ability to inflate by printing more money.