Deflation why bad

Finally, Bordo, Landon Lane, and Redish stress that although 19th century deflation was chiefly of the good variety, people hardly perceived it as good. The common view at the time in the United States, Britain, and Germany was that deflation was a clear sign, if indeed not a direct cause, of economic depression.

Such a position in fact accounts for the concern about deflation that persists today in the United States, Europe, Japan, and China. Yet the researchers believe that, " historically, the negative view of deflation may be attributed to the fact that deflation had been largely unanticipated. NBER periodicals and newsletters are not copyrighted and may be reproduced freely with appropriate attribution.

More in this issue. The Digest: No. Share Twitter LinkedIn Email. Also in this issue:. Taxing Corporate Capital Gains. Cutting interest rates below zero is very hard. Yes, one way that central bank magic works is that the Federal Reserve and the European Central Bank cut inflation-adjusted interest rates below zero when times are bad, hoping to spur borrowing, spending and investment. At no inflation, a zero interest rate is, well, zero.

And with deflation, a zero interest rate is a positive real rate. Deflation just makes all this harder to do. Once upon a time, the U.

There are still some people fretting that, given all the money the Fed has pumped into the economy in quantitative easing, inflation is just around the corner.

From to , stock and commodity prices fell, leaving borrowers unable to repay loans. Unemployment rose, and the housing market took an enormous hit. Known as the "Lost Decade," from to , the Japanese economy experienced a prolonged period of deflation. But before the s, Japan's economy was one of the most productive, growing more than four percent each year. The primary causes of this downturn were skyrocketing interest rates and falling equity rates. As a result, a "liquidity trap" occurred.

This is when investors sit on their cash because they will earn better returns instead of investing or spending it. Typically, they do this because deflation is just around the corner. Link copied. Point Editorial. What is deflation? The length of deflationary periods tends to vary. What causes deflation? The two major causes of deflation are a decrease in demand and a growing supply. Decrease in demand Typically, when prices drop, consumers will hold off on buying and wait to see the lowest price for any particular item.

Enter Point Card. That said, Point is an excellent tool for navigating your financial journey. Growth supply This occurs parallel to a decrease in demand and means that, because consumers are refraining from spending, more products are available than are being sold.

How is deflation measured? Deflation can also be measured using a nation's gross domestic product, or GDP. What are the effects of deflation? Deflation can lead to detrimental effects on any economy, including the most noteworthy: Unemployment Laying off workers is a typical response during economic downturns.

Production slowdown Since people are buying less, businesses will respond by slowing down or even forestalling production.

Higher interest rates When prices drop, a nation's real interest rate shifts. Debt Again, interest rates tend to rise during deflationary periods, which increases personal and professional debt. There have been many episodes in the past when real rates have been below zero. That is impossible to do when there's deflation, as you can't get interest rates much below zero. So it makes it much harder for the central bank to do anything to stimulate a flagging economy.

Then there is the incentive to delay spending that can come with deflation. If something will be cheaper next year, some people might delay buying it. It doesn't apply to everyday essential purchases; you cannot wait 12 months for lunch.

But it can be relevant to items where there is more room for delay - are you going to replace that fridge now or next year? The key factor here is expectations of future prices. The fact that prices fell last year does not necessarily mean they will do so next year. But last year's inflation or deflation can be a factor when people form their expectations about what lies ahead.

There is also a downside in terms of the adjustment that is needed to restore competitiveness in some eurozone countries. They need to either reduce costs or increase productivity by more than the competitive nations - such as Germany.

If inflation across the eurozone is very low, it is more likely to be the case that some will need outright deflation, with the other problems it can bring. Another reason this can be so tricky is a phenomenon that economists sometimes call "sticky nominal wages".

If you need a country or a particular industry to become more competitive, it is a lot easier if wages elsewhere are rising. You can achieve the necessary adjustment if wages in the country concerned rise more slowly.