Deflation

Everyone likes becoming richer, right? I remember learning that there are no free lunches in economy. Can deflation really be good for everyone? Inflation is a very interesting economic phenomenon. Nothing in the real world changes; a carrot is still a carrot; a car is still a car. Money is just paper, right? Nevertheless, inflation can have a devastating effect on economy.

Deflation can actually be problematic. Many economists with me believe that our economy needs a modest inflation because the way it is constructed. Inflation helps in the longer run to even out imbalances in the economy. The constant push of prices and wages is the lubricant of the economy. A simplified example: It is extremely hard to make workers accept nominal decrease of wages, but a real decrease might pass as long as they get a nominal increase. This helps industries with increasing competition and diminishing margins to survive, and thanks to the inflation prices and wages are slowly adjusts to the market and the relative size of the industry in the economy change.

Many of the economic theories in use do not work well in a deflationary climate. Furthermore, one of the big problems of the mature western economies today is that many have imported deflation and a domestic inflation. This is a new situation, and they do not really know how to handle it best. These imbalances, if allowed to grow might hurt and sever the economy. Well, we?ll just have to lower our prices and wages in the areas where the global competition is high you might say. Good luck, I say.