Pakistan opposition leader Benazir Bhutto was assassinated in a suicide attack. Geopolitical instability such as this is sure to have an effect on the markets: stocks are down, and gold, oil and bond prices rose on the news this morning.

Central banks are working together to forestall any sharp tightening in credit conditions that might lead to a downturn around the world. On Friday, the Dow rose 205 points. But what markets take away, the feds have a hard time replacing. This is the Battle Royale that Bill Bonner has been talking about. Inflation vs. Deflation; Markets vs. Market Manipulators.

Big financial stocks are down nearly 50%. Many of the derivative contracts they sold to others, and sold to themselves, were never ‘marked to market.’ Instead, they were ‘marked to model,’ mathematical models with deep, obvious flaws. Worse, many were ‘marked to make-believe’ in a way similar to subprime mortgages themselves.

Commodities reached a new high yesterday – another solid hit from the fist of inflation. Inflation reeled, and then delivered a jab – foreclosures rose 68% in November, and then another jab – home construction is at the lowest level in 16 years.

Consumers can’t make money from rising house prices. And they can’t borrow money either. All they can do is to spend the money they earn. Ouch. Ouch. Yes, a recession is probably on the way.

If it is true that Americans are the world’s champion consumers, and if it is true that China imports much of its commodities for the purpose of making stuff for Americans, won’t Chinese demand go down with U.S. consumption? And won’t commodity prices crash rather than soar?

Now we have Win-Win Capitalism. It’s the system where no one loses. Since around 1980, investors have come to see capitalism as a benign force. It makes people rich, if they can only get enough of it.

Now we're blaming the Chinese for the increase in the price of Christmas trees?

Here come the central bankers, ready to ride into battle. But against what? Inflation? Or deflation? Against the unstoppable force, or the immoveable object? For the moment, they regard the artillery of deflation as the greater worry. So Bernanke fired a weak volley in that direction on Tuesday. The markets fired back, saying the Fed wasn’t using enough firepower.

The financial marketplace is a lot less forgiving than it was a couple years ago. Now, marginal homeowners are being squeezed by higher prices and higher mortgage payments. And marginal investors –- even those with billions to throw around –- are being squeezed by falling asset prices.