[vkou]

Deflation is terrible for the economic system that we live in.

In a deflationary economy, the value of money goes up, as time passes. This means that people with money have zero incentive to spend, or invest it.

Hypothetically, you could adopt an economic system that would not be affected by deflation, but until you do, it's best to avoid tangling with it.

[fairenough42]

From https://en.wikipedia.org/wiki/Deflation#Effects, it sounds like it would _increase_ the incentive to lend, but would decrease the incentive to _borrow_. Inflation, conversely, seems to decrease the incentive to lend (the inflation-adjusted return is less than the nominal rate). Naively, it's not clear to me why the latter is better for the economic system we live in (would that be free-market captialism? or something else?). Can you elaborate?

Either way, both of these seem different from eliminating the incentive to loan or borrow. People know how to consider inflation-adjusted rates of return and invest accordingly. Soon these same lessons will be applied in negative interest rate scenarios, which I guess counts as deflation.

[BoiledCabbage]

> People know how to consider inflation-adjusted rates of return and invest accordingly. Soon these same lessons will be applied in negative interest rate scenarios, which I guess counts as deflation

This is part of it. Deflation means my money is worth more tomorrow than today. If due to 10% return just by keeping my money under my mattress due to deflation, why would I ever risk loaning it out into an investment opportunity. Essentially the risk-free return is now 10%, so for any investment to be worth wild it must return even higher than that. That's hard to do. The higher the deflation, the higher the baseline return needed. As a result any business that might've returned 5% is now no longer a viable option. So it reduces overall investment because it raises the bar for success.

Similar is for purchases. Why buy something now, when I can wait 6 months and get it cheaper. As a result everyone stops spending, and everyone stops investing. Now that there is no spending, there is no money to pay salaries, so people have less money to go around and so again money becomes more valuable and you get a downward cycle.

Imagine I said, at midnight january 1st any money you have in cash or in a bank will be worth 50% less. You'd buy up anything you could or invest in anything you could to get rid of cash and put it in hard currency. Even if someone had a business that would lose 10% over the year, that'd still be better than losing 50%.

Deflation is the opposite. Any cash or bank accounts you have will double. You'd sell your items, but nobody would want to buy. They could buy two couches with that money the next year.

Overall if money always is slowly decreasing in value, people want to find uses for it either consumption or investment which move the economy. If it's increasing in value (ie deflation) they wan to do the opposite. Hoard it.

[fairenough42]

Thanks for the detailed reply!

Some of your point sounds a bit like this (please correct me if I'm wrong): "Deflation is always bad because it could be hyperdeflation." Namely, if deflation is significant enough that it incentivizes me foregoing a purchase for a few months (and then another few months, etc) it's _significant_ deflation. But why not make the equivalent argument "inflation must be bad because we can imagine hyperinflation" as well?

But instead of hyperdeflation, if we had -0.1% risk-free interest rates, would people really forego all purchases? I don't see why. If I need a new toaster, or some clothes, or gas for my car, I would not delay the purchase for 6 months to save 0.05% on the purchase. This seems like a realistic number if the deflation is caused by a population contraction in a country with an advanced economy.

It seems real-world encounters with deflation (at least since the inception of central banking and planned expansions of money supplies) have come largely during periods of _sharp_ economic contraction. But is such a scenario really comparable to a slow decrease in population?

Moreover, if monetary policy can offset deflation, what creates the need for immigration to offset the deflation? Why isn't the monetary policy enough?

[BoiledCabbage]

> Some of your point sounds a bit like this (please correct me if I'm wrong): "Deflation is always bad because it could be hyperdeflation."

I'm not an expert at this, I'd suggest looking at it in this manner instead. You are correct that other than the psychological (which does matter), there is no magic barrier that once inflation crosses the zero point and becomes negative things will spiral out of control. Instead it is a sliding scale 10% inflation will produce less investment than 20%, and 5% will produce less than 10%, and 0% less than 5%, and -5% less than 0.

Deflation frequently comes sharply, but it also often immediately comes following a period of credit expansion. Pretty often you'll see a sudden contraction after a bubble. In my understanding, a modern view of a "stable" economy is one that is at least slowly growing. And so even one that is holding still is "shrinking". Some degree of this is psychological as well. Debt becomes harder to handle, some businesses go bust, so people become less willing to lend money again.

I do think that yes, in the most cases deflation can be handled via monetary policy. But by essentially borrowing from the future and increasing demand. But that means the way out is essentially putting free money in the hands of the people most likely to spend it. The poorest.

A lot of politicians are more comfortable with giving money to banks or businesses than to low income citizens. But they are the ones who will spend it directly to increase demand. So in essence, in my opinion, it really boils down to political will to spend your way out of a deflationary cycle. That said, economists aren't all in agreement about these types of things. Dig into it a bit more yourself and see what's written on it.

[unishark]

Well if the value of money is going down then the price of everything else goes up (land, stocks, precious metals). The incentive is to convert cash into these alternatives.

Seems to me the same is true for borrowers. Borrowing money to buy land/stocks/etc is still a smart move as long as they keep trending upwards faster than the loan rates. Of course this requires sufficiently low interest rates be available, which is where the reference "our system" comes in I suppose, with a federal reserve maintaining artificially-low rates to drive this wealth transfer from savings to borrowers.

This is just the sideshow of wealth moving around, of course. I don't really buy that that if this game ended it means the death of the entire economy. It's just the part that can be subjected to manipulation. Obviously the point of earning money in the first place is to spend it, not just save or transfer it from one medium to another. Money is just an exchange itself. In deflation, things get cheaper and supply-and-demand curves says more people will buy things.

[wavepruner]

"This means that people with money have zero incentive to spend..."

Except for food, housing, healthcare, entertainment, and well, pretty much everything people spend money on. You can't be alive or enjoy that life without these things. People wouldn't refuse to spend their money and starve to death because then they wouldn't be around to use it.

[vkou]

Why should I buy a house today, when I could buy a bigger house for the same money next year?

If I have enough cash, sitting on it will make it appreciate more than paying a year's worth of rent.

Food is a small fraction of a household's expenses, as is healthcare, in every single country that is not the United States.

[wavepruner]

If you don't need or even want a new house then what good does it do you or society to buy a new house? Consumption for the sake of consumption is not a good thing.

If you're buying houses solely as an investment then you get situations like Vancouver. How is that a good thing?

[dragonwriter]

> Hypothetically, you could adopt an economic system that would not be affected by deflation,

You need money to expire (or, more specifically, lose nominal value faster than deflation reduces nominal prices) if not spent, then people have an incentive to spend their money as they receive it even though nominal prices are decreasing, because you can't hoard surplus to immediate need money for future purchases at lower prices.

[nine_k]

Normally, this is achieved by printing money, so they lose relative value, "expire". That is, bu running an inflation.

[dragonwriter]

No, I'm talking about individual units of issued currency (e.g., physical bills in the simplest case) losing nominal value, which can be done while the underlying currency is gaining real value (in deflation).

Yes, obviously you can avoid deflation by creating enough money that you instead have inflation, but I'm talking about having a monetary system that avoids some of the negative incentives of deflation even when it occurs.

[jackcosgrove]

The world population is projected to peak around 2100 as birthrates fall worldwide.

Eventually the entire world will run out of immigrants.

Unless some unanticipated sea change in human behavior occurs, the entire world will be faced with deflation for the foreseeable future.

[orwin]

> The world population is projected to peak around 2100

If you only take natality prospect, yes. However we're on our way to hit +3° average around 2080. The average temperature difference between the last ice age and our age is ~5° for comparison. The agricultural change this 3° will have unforseen effects (well, not really unforseen, look what happened circa 2010 in Egypt and Tunisia), without taking into account the groenland melting (this is unavoidable anyway) and the wetbulb temperature being reached more than 100 day a year in eastern India/Bangladesh (and Florida won't be any better, if i remember correctly it will be ~80day/year for most of southern Florida). This will probably regulate the population a bit faster than predicted.

[imustbeevil]

People spend money because they want things more than money. No one spends money because they expect it to be worth less in the future. That's a very narrow economic interpretation.

[option]

nope, people actually with money invest them because otherwise the cash is guaranteed to lose value.

having said that, i don’t see why this has to be tied with population growth. we already have way too many people in this planet - lets focus on increasing quality of life, not number of people

[imustbeevil]

Nope.

People invest because the return is higher than the return on deflation. For example, if cash is worth 1% more next year, you can invest in the S&P 500 and make more money than holding cash. If cash is worth 10% less next year but the S&P 500 crashes, you'd make more money (have more purchasing power) with cash. It has nothing to do with whether money is more or less valuable, it has everything to do with comparative investments.

[vkou]

In a deflationary world, the S&P 500 would have a much lower rate of return than it does today.

[imustbeevil]

That can be true and it could still be higher than the rate of deflation.

Right now banks lend businesses money because the business is projected to be able to make payments at an interest rate higher than the federal funds rate. People have to buy food. People will buy the new iPhone. People pay rent. People like to travel. All of those things happen no matter what the value of money is doing, so there will always be economic incentive to start businesses that can be profitable.

My point is that it's not so one dimensional. Deflation doesn't have to be bad. You can create value without reducing the value of everything else.

[vkou]

In a deflationary world, it would have a lower rate of return, while hoarding cash would have a higher rate of return.

This would attack investing at both ends. Currently, the spread between inflation eating your money, and the SP earning you money is 7%. That compensates for a lot of risk. Drop that down a few percentage points (by making cash attractive), and a few more percentage points (it's harder for firms to earn profits in a deflationary environment) while keeping the risk the same, and the SP becomes a worse and worse investment.

[amiga_500]

I write this near starvation, on my commodore 64. Food and electronic equipment will be cheaper tomorrow, and with the money I save I can purchase that econ 102 book.

Why must I be so rational?

[vkou]

You may not be so rational, but investors will be.

If deflation were 3% a year, nobody would invest into anything short of a golden goose. Why risk your money, when you can sit around, do nothing, and have it earn value for you, with zero risk?

In fact, if we were looking at a long-term deflation of 3%/year, I'd stop working, sell all of my investments, stick my money in a mattress, and retire tomorrow.

You tell me whether or not that is healthy for the economy.

[amiga_500]

99.9% of people aren't in that financial position. It's a completely out of touch scenario.