The economy undergoes highs and lows, much like any occurrence in this world. Money is continually moving, and not one entity can stop its changes from happening. Damon Vickers, New York Times bestselling author and professional investor, refers to money as the most significant indicator of economic shifts in the world.
“For central bankers, deflation may seem like the nightmare that they are dreading. It’s an unwelcome circumstance that Central Banks around the world just aren’t poised to deal with anytime in the near or distant future.”
Deflation is the sustained, broad decline in prices in any economy over some time. It is inversely proportional to inflation but is separate from disinflation (positive inflation rate that is failing). It follows the movement of supply and demand, which occur in two scenarios: decreased supply or increased demand for money, and increased supply or reduced demand for goods.
In essence, deflation inhibits spending and borrowing. For any depressed economy, this limitation is dangerous. “People defer paying for goods or taking out loans to wait for much lower prices. When this happens, central banks clamor to remedy a weakening economy, which happens as a result of deflation,” Damon Vickers explains.
Other than this problem, deflation also causes a more significant burden on debt repayment for borrowers. Debts are fixed in monetary terms, but income and wage most likely fall during a deflation. Having loans at a time of deflation subjects the borrower to further debt, given that the money lent by the financial institution grows in worth.
Vickers adds, “this phenomenon causes the ripple effect on an economy’s corporate sector. Downsizing and deferment of spending on capital expenditures are common in deflation.”
Damon Vickers notes how central banks respond
Central banks fight deflation mainly through decreasing interest rates. It permits banks to stimulate money by allowing more loans, which consequently encourages inflation. The boon of triggering a little increase is evident, but it does not solve the problem entirely.
“What the government can do is introduce more money to the country’s economy by asset purchasing. By doing so, more jobs and incomes are created, and urges consumers to start spending again,” Damon Vickers expounds.
Additionally, the government can also attribute longer maturities for bonds. This intervention policies ease the effects of deflation and stimulate the economy to keep it from falling further into the below-zero marks.
“The cooperation between fiscal and monetary authorities is essential at times like this; when there is a unified goal to address the issue, deflation becomes a bit easier to bear and remedy in the long run,” Vickers closes.