Austin.   After spending the better part of an afternoon with economist Lacy Hunt I returned to my car, opened the door, and simply sat for a few minutes. 'What does it take to overcome a lifetime of conditioning,' I wondered?

That, as much as factual data, is the issue virtually all of us face. We're conditioned to fear inflation, to assume that recessions are dutifully followed by recoveries, and to be wary of higher interest rates. Mr. Hunt and Van Hoisington, the two prime movers at Hoisington Investment Management Company, march to a different drummer. In their view any recovery will be delayed and slow. Despite the apparent low level of interest rates, they believe rates are likely to decline further. This is far from the conventional wisdom. Nonetheless, the $3.6 billion in fixed income investments the firm has under management is committed to exactly that future.

So listen to the supporting facts that Mr. Hunt uses when he talks with their institutional clients.

"Right now we're moving into an economic environment that no one alive has any experience with. I think we're already in debt deflation."

I asked what debt deflation was.

"It occurs when debt levels are unmanageable. Money that might be spent comes out of spending and goes into debt reduction. If you look at Japan in the 90's, debt deflation was first. Price deflation followed. It was the same here in the Depression."

"We've got the highest levels of debt (relative to output) since 1933. Check the bankruptcy figures." Mr. Hunt flipped through a barrage of charts as he spoke:

•           Homeowner equity as a percent of total home values. The chart was a                long, slow decline from over 80 percent in 1952 to about 56 percent                today. Home values may be rising but, collectively, we're borrowing                equity out it faster than it comes in.

•           The highest residential mortgage foreclosure rate in 30 years.

•           A record level of business and consumer bankruptcies.

•           A steadily rising ratio of debt to gross domestic product, now about                160 percent.

I asked how people would handle the situation.

"There are two ways. It can be handled through income or through wealth.

"But we've lost 2.2 million private sector jobs since December 2000. We're seeing the weakest wage increases since 1993. So we're not likely to handle it through (higher) income.

"We're in a debt deflation that will take time--- it may take years."

I asked if this meant a liquidation of consumer assets--- forced sales of houses, cars, boats, etc. Mr. Hunt didn't foresee anything that dramatic. Instead, he thought it would more likely work out as a long period of hunkering down.

That's one of the reasons the prospects for future demand and recovery are dour.

"We're operating our manufacturing plants at 74 percent of capacity. Yet we have 57 cents of debt per dollar of corporate net worth. We're also paying out $1.65 in dividends for every dollar of corporate profits. Essentially, our corporations are going into debt to finance their dividend payments," Mr. Hunt said.

"Basically, we've got some very serious structural imbalances--- the buildup of debt beyond what can be sustained and a rise in productive capacity that is beyond demand--- we saturated the demand for things as we took on more debt."

I asked if this recession was different from others.

"Yes. The 1990's was an investment led expansion, not a consumer led expansion. It was the first such expansion since the 20's and that was the first since the Grant administration after the Civil War--- the one where we built our national railroad network."

He pointed out that all three periods had great excesses, corruption, and mis-investment and that all had ended with excess capacity, enormous debt, and financial strain.

I asked what the government could do.

"There are no silver bullets for this. Neither monetary policy (changing interest rates) nor fiscal policy (stimulating the economy with new government spending) can do much. In fact, we've already had the second largest shift in fiscal stimulus since the Korean war."

Pointing to another chart, he observed that we'd gone from a 2.2 percent of GDP federal surplus to a 1.8 percent of GDP federal deficit, a 4 percent shift to stimulus. Another chart showed that state governments had done the same, shifting from a .6 percent of GDP surplus to a .5 percent of GDP deficit over the same period.

Altogether, it was a whopping 5 percent shift.

"That won't happen going forward," he observed. "The states will be increasing taxes and fees. No income tax cut or additional spending increase will be nearly as large, either."

Mr. Hunt shrugged his shoulders.   "Besides, if government spending was the key to prosperity, Japan would be in a stock market boom. They aren't."

What do Hunt and Hoisington expect? Long term Treasury yields as low as 3.5 percent.

Read last year's forecast and interview

Readers who would like to learn more can visit the Hoisington Management website, where their quarterly reviews can be downloaded as PDF files.