Deflation is the general decline in the price level of goods and services. Deflation causes the nominal costs of capital, labor, goods, and services to fall. In this regard, deflation is the opposite of inflation, where the cost of goods and services is rising. Deflation can also be called negative inflation because it occurs when the rate of inflation is less than 0%.
Not everyone wins from lower prices and economists are often concerned about the consequences of falling prices on various sectors of the economy, especially in financial matters. In particular, deflation can harm borrowers, who can be bound to pay their debts in money that is worth more than the money they borrowed, as well as any financial market participants who invest or speculate on the prospect of rising prices.
Let’s go further into the topic and explore the causes of deflation. Just by the way, there are a lot more blogs like these that you can check out in our economics series.
Causes of Deflation
Deflation can occur in recessions, where demand for most goods and services declines, and the providers of these goods and services lower prices to compete for fewer consumer dollars.
A decrease in the total demand for goods and services and increased productivity can also result in lower prices. Causes of this shift include reduced government spending, stock market failure, consumer desire to increase savings, and tightening monetary policies.
Falling prices can also happen naturally when the output of the economy grows faster than the supply of circulating money and credit. This occurs especially when technological advancements improve the productivity of an economy. Companies operate more efficiently as technology advances. These operational improvements lead to lower production costs and cost savings transferred to consumers in the form of lower prices.
A recent example of deflation occurred during “The Great Recession” of 2007-2008, where the inflation rate fell below 0%. Taken out of context, this might sound like a good thing for consumers. But lower prices are a reflection of lower demand because consumers did not have the money to buy certain goods due to loss of jobs or reduced income.
We hope you have understood what deflation is and what its causes are. We at explified are trying to build a library of informational content and would like to thank you for visiting our site! Hope you’re liking it here.
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