Inflation and deflation Capital and assets are two very important economic terms that directly affect the macroeconomic situation, financial situation and investment of each individual.
Learn the concept of what is inflation and deflation?
Let's go together HVA Learn about the concepts of inflation and deflation in the following article.
What is inflation?
Inflation is a phenomenon in which the general price level of goods and services increases over time, which means that the value of a currency decreases. This means that the same unit of currency will buy fewer goods and services than before.
Inflation reflects the decline in the purchasing power of a unit of currency in an economy. When comparing countries, inflation also reflects the depreciation of a country's currency compared to the currency of another country.
What is deflation?
Deflation is the opposite of inflation, which occurs when the general price level in an economy falls continuously. Deflation can be understood as a state of inflation with a negative rate. In official economic statistics, the rate of deflation is often expressed as a negative number in the inflation rate calculation.
Deflation often occurs during periods of economic recession or stagnation. It is a serious problem in modern economies because it increases the real value of debt, which can make a recession worse.
Causes of deflation
Deflation can arise from many different causes, of which three main factors stand out:
Reduce money supply
When the amount of money in circulation decreases, the prices of goods and services tend to decrease. This often happens when the Central Bank takes measures such as raising interest rates, tightening credit or selling bonds to control the amount of money in the economy.
For example, in the 1980s, the US Federal Reserve raised interest rates to curb inflation, which led to a decrease in the money supply and the emergence of deflation.
Increase supply of services and goods
An increase in the supply of goods and services also contributes to a decrease in prices in the market. This often occurs due to economic growth, improved labor productivity, or increased competition in industries.
For example, over the years, labor productivity in the United States has increased significantly, increasing the supply of goods and services, which in turn has driven down prices.
Reduced demand
When consumer demand declines, prices will also fall. This can be due to economic recession, high unemployment, or changes in consumer tastes and preferences.
Example: According to Market NewsThe 2008 global economic recession sharply reduced consumer demand, leading to a decline in market prices.
The effects of inflation and deflation
Deflation and inflation All have significant impacts on the economy, each phenomenon carrying its own distinct consequences:
Inflationary
Inflation directly affects the real income of workers. Although nominal income may not change, because the prices of goods and services increase, the real income of workers decreases. This leads to a decrease in purchasing power, which means that with the same salary, workers can buy fewer goods.
When the value of money falls, interest rates often rise to balance the market. Workers may benefit from borrowing money, but this also encourages speculation and hoarding, which upsets the supply-demand balance. As a result, the poor face difficulties in accessing basic necessities, while the rich can take advantage of the opportunity to increase their wealth, leading to income inequality.
On a national scale, high inflation causes the domestic currency to depreciate against foreign currencies, leading to trade deficits and increasing public debt burdens. Although the government may benefit from the reduction in the value of domestic debt, it is heavily burdened by international debt.
Deflation
How is deflation different from inflation? In contrast to inflation, deflation reduces the value of goods and services, but it also causes economic activity to stagnate. Consumers tend to delay spending, expecting prices to fall further, while businesses reduce investment and cut jobs to save costs.
Prolonged deflation leads to rising real interest rates, which cause stagnation in production and widen the recession. Monetary policies become less effective in dealing with deflation.
If not promptly intervened, deflation can create a dangerous spiral: falling prices, rising unemployment, falling incomes and rising bad debts. This not only weakens corporate profits but also leads to mass bankruptcies, causing serious damage to the economy.
Inflation and deflation Both need to be managed and controlled to maintain economic stability. Understanding the nature, causes and consequences of both phenomena is the basis for building effective economic policies, aiming for balance and sustainability.
Are deflation and disinflation the same?
The basic difference between deflation and inflation lies in the direction of price changes: inflation occurs when prices of goods and services rise, while deflation occurs when prices fall. These two phenomena are like two sides of the same coin, because the economy can quickly move from a state of inflation to deflation or vice versa.
Chief inflation and deflation All of these can have negative impacts on the economy, depending on the cause and severity of each phenomenon.
It is important to distinguish between deflation and disinflation. Disinflation is the process of slowing down the rate at which prices of goods and services are rising, not falling prices as in deflation. Disinflation is generally considered to be more positive, as it helps maintain price stability without causing a fall in the value of goods, ensuring that the economy operates stably.
Inflation or deflation which is more dangerous?
Inflation and deflation Both can have negative impacts on the economy. However, deflation is often considered more dangerous than inflation for the following reasons:
- Deflation can lead to recession: When prices fall, businesses may cut back on production to reduce costs, leading to unemployment and recession.
- Deflation is harder to control: Inflation can be easily controlled by raising interest rates or reducing the money supply. However, deflation is harder to control, as these measures can slow down economic growth.
- Deflation can have long-term negative effects: Deflation can reduce investment, reduce productivity and increase debt, weakening the economy in the long run.
Inflation and deflation are two common phenomena in the economy. At moderate levels, both can bring positive impacts to the market. However, when they reach high levels, both can cause serious consequences, including recession and economic crisis. Hopefully, this article by HVA has helped investors. smart investment better understand deflation and the difference between deflation and inflation.
