Quite often people perceive deflation as a positive process. But is it really so? Maybe in order to understand how serious it is, it is worth learning about what deflation is in simple terms? That is what this article was written for. Together we will understand the question: is deflation good or bad?
The significance of the macroeconomic process
What is this? Deflation (in simple terms) is a macroeconomic process characterized by the withdrawal of a large amount of money from circulation. This leads to an increase in the purchasing power of money and a decrease in prices. The word "deflation" came to us from the Latin language and, according to etymology, means "deflation". At its core, deflation is the opposite of another well-known indicator - inflation. Recall that inflation is a process characterized by the depreciation of money due to its redundancy.
Given what many have heard about the fight against inflation, deflation may seem not just a positive, but also an absolutely harmless process in the country. However, this is not quite true. But before concludingregarding deflation (for better or for worse), it is worth understanding the causes of its occurrence and the consequences of this phenomenon.
Causes of deflation
Considering the causes of this phenomenon, we can identify a fairly large number of them. After all, every economic action or inaction leads to fluctuations at the macroeconomic level. However, the most global situations leading to a reduction in the money supply are only three:
- Growing need for cash. If we look at economically developed countries and conduct research on the behavior of the population, it will become obvious that people there have begun to save more than spend. The trend is that most prefer to put their money in the bank at interest, which reduces the amount of money in circulation. Such behavior leads to the fact that the demand for non-cash and cash is growing, therefore, the consumer price index is decreasing, and prerequisites for deflationary processes appear.
- Reducing consumer loans. There are many reasons why banks stop issuing consumer loans in large volumes: an increase in the refinancing rate, an increase in the quality of life of the population, a decrease in the cost of goods and services, etc. circulation of the money supply. This again breeds deflation.
- Control of the money supply by the state. This reason is the most common, especially ifthe state experienced an increase in inflation. One of the instruments of control is the increase in the refinancing rate. By setting a new percentage, the Central Bank discourages commercial banks from taking money. Against this background, the amount of money in circulation is decreasing, which increases the demand for them.
Consequences of deflation
It's time to decide: is deflation good or bad? In fact, protracted deflationary processes are rare in the modern world. When preparing monthly reports, literally at the first stages it becomes clear what to expect - the depreciation of money or an increase in its purchasing value. Having told what deflation is, in simple terms, we will try to explain the consequences of this phenomenon just as simply.
Each consequence leads to a new, even more significant one. This happens with both inflation and deflation. Let us consider them in detail, in order of increasing degree of influence on the country's economy.
Declining consumer demand for goods and services
As already noted, deflation increases the need for money. This affects both consumers and producers. Producers are forced to reduce prices for goods and services in order to be able to recoup production costs to some extent. However, the cost is reduced not due to a technological breakthrough leading to a drop in cost, but due to artificial intervention in pricing. The population, expecting a further fall in prices, tries not to buy anything that onlyreinforces deflationary processes.
Closure of production due to bankruptcy
Against the fact that the population buys less, and manufacturers reduce prices to stabilize demand for their goods and services, production is declining. Against this background, "unnecessary" labor is being released and equipment is being sold that is simply idle. The inability to get out of this situation leads to the bankruptcy of companies and their closure.
Investment outflow
Against the background of the closure of production, the purchasing power of the population is declining. Incomes fall faster than prices. Banks stop issuing loans, as there is a serious risk of non-repayment of money. The general economic situation leads to the depreciation of assets, which causes an outflow of investments. Investing in production becomes risky. As a result, the region or state loses its investment attractiveness.
Thus, answering the question of whether deflation is good or bad, one can argue that it is terrible. No wonder many countries, in particular Japan, are trying their best to avoid this phenomenon. To do this, use a lot of monetary instruments. The most favorite method is a negative interest rate on a loan, designed to collect all the money from the population. Also, deflation forces the state to turn on the machines and print money intensively. However, this method is too risky - a transition from deflation to hyperinflation is possible, the consequences of which are also colossal. Conclusion: slight inflation shouldbe present, and the state should make every effort to keep it low.
