Something economists thought was impossible is happening in Europe

[SimpleDon]

Does this mean I'm finally going to get a coherent explanation from somebody as to why inflation is good and deflation is bad? Because almost everything I understand about the market-driven economy tells me that the exact opposite should sometimes be true...

The main issue with deflation, is that it makes investing or lending less attractive than simply sitting on an asset and waiting for it to increase in value.

You also have to consider the impact of inflation and deflation on debt.

Under inflation, wages, prices, profits and real asset values go up. The purchasing value of money goes down. The value of debt goes down. Debt is paid back out of higher wages and higher profits with money that is less valuable.

Contrast that with deflation. Under deflation, wages, prices, profits and real asset values go down. The purchasing value of money goes up. The value of debt goes up. Debt is paid back out of lower wages and lower profits with money that is more valuable.

Inflation makes debt easier to pay off. Deflation makes it harder.

 

[Draconis]

If you are getting a lousy return on money invested in banks (some of our accounts pay literally zero interest, others peanuts) then why leave it in a bank? Suddenly there is no incentive to do that, the banks will lose liquidity, hence the ability to loan money, and off we go again, relying on government borrowing to help keep things going.

Mind you, the food bill is coming down.

 

[SimpleDon]

If you are getting a lousy return on money invested in banks (some of our accounts pay literally zero interest, others peanuts) then why leave it in a bank? Suddenly there is no incentive to do that, the banks will lose liquidity, hence the ability to loan money, and off we go again, relying on government borrowing to help keep things going.

Mind you, the food bill is coming down.

The vast majority of savings in the economy is cash held by corporations. Usually retained earnings, profits, for future investment or as a hedge against a known possible expense like a possible judgement in a dispute, or against a recession for a cyclical business. There isn't a mattress big enough to hold this amount of cash. Corporations have to keep their money in a bank account.

Banks can never lose liquidity. The very definition of a bank guarantees it. A bank creates money out of thin air when they make loans. Banks make more money on a loan when they loan out deposits, but they don't need deposits to make loans. The limits on how much money a bank can conjure up out of thin air are external to the bank. One is the demand for loans from creditworthy borrowers. This demand is high in good economic conditions and low in bad. Another is any reserve requirements, that force the bank to deposit money equal to a percentage of the loan in a reserve account in the central bank. Another kind of limitation are capital requirements, a bank is limited to only loaning out a multiple of its capitalization, say eight times. Yet another would be government regulations forcing banks to specific underwriting standards. When I lived in Germany their laws required a 33% downpayment for a home mortgage, which is why they didn't suffer in the Financial Crisis of 2008 to the degree that the US and other neoliberal economics based economies did.

In the US a majority of the voters apparently believe that the aim of government economic policies should be to direct as much money to the very wealthy as possible. Bankers are very wealthy. So most of these restrictions have been removed, even though it guarantees periodic financial crises caused by the financial sector’s misbehavior, similar to the savings and loan crisis of the late 1980's or the similar but much more serious financial crisis of 2008.

 

[Togo]

You're sort of ignoring the middle option there, which is to deposit that money in a savings account. A steady deflation rate means that that money is actually worth more the longer you keep it in the bank, and this encourages workers to save since the cost of products is going down and they are able to save more of their income for the future.

Only if you assume the bank doesn't pass the negative interest rate (deflation) on to their customers.

 

[Crazy Eddie]

The main issue with deflation, is that it makes investing or lending less attractive than simply sitting on an asset and waiting for it to increase in value.

You also have to consider the impact of inflation and deflation on debt.

Under inflation, wages, prices, profits and real asset values go up. The purchasing value of money goes down. The value of debt goes down. Debt is paid back out of higher wages and higher profits with money that is less valuable.

Contrast that with deflation. Under deflation, wages, prices, profits and real asset values go down. The purchasing value of money goes up. The value of debt goes up. Debt is paid back out of lower wages and lower profits with money that is more valuable.

Inflation makes debt easier to pay off. Deflation makes it harder.

That once again ignores the very real fact that wages are not always (or even usually) connected to the inflation rate and do not rise or fall at a pace consistent with it. If wages remain steady in a deflationary period, debt actually becomes EASIER to pay off, not harder; likewise, if wages remain stagnant in an inflationary period (e.g. the past 30 years) then debt becomes harder to pay off, not easier.

 

[Crazy Eddie]

You're sort of ignoring the middle option there, which is to deposit that money in a savings account. A steady deflation rate means that that money is actually worth more the longer you keep it in the bank, and this encourages workers to save since the cost of products is going down and they are able to save more of their income for the future.

Only if you assume the bank doesn't pass the negative interest rate (deflation) on to their customers.

That can't be assumed either, considering the banks have decided to share a meaningful positive interest rate (inflation) with their customers. In a deflationary period where savings accounts are suddenly more attractive in and of themselves, banks might be encouraged to attract more customers from their competitors by offering higher interest rates, knowing that the deflationary economy will reward those who save more money and, in turn, reward the bank whose purchasing power will also increase.

 

[SimpleDon]

You also have to consider the impact of inflation and deflation on debt.

Under inflation, wages, prices, profits and real asset values go up. The purchasing value of money goes down. The value of debt goes down. Debt is paid back out of higher wages and higher profits with money that is less valuable.

Contrast that with deflation. Under deflation, wages, prices, profits and real asset values go down. The purchasing value of money goes up. The value of debt goes up. Debt is paid back out of lower wages and lower profits with money that is more valuable.

Inflation makes debt easier to pay off. Deflation makes it harder.

That once again ignores the very real fact that wages are not always (or even usually) connected to the inflation rate and do not rise or fall at a pace consistent with it. If wages remain steady in a deflationary period, debt actually becomes EASIER to pay off, not harder; likewise, if wages remain stagnant in an inflationary period (e.g. the past 30 years) then debt becomes harder to pay off, not easier.

The definition of inflation is prices and wages going up. The opposite is true for deflation.

No, even if your wages stayed the same under deflation you are paying back the loan with money that's more valuable than the money you received from the loan for an asset that is worth less because of the deflation.

If you believe that deflation is beneficial in anyway you are prime candidate for Austrian/Libertian economics. They're immensely proud of always being wrong about everything economics.

 

[SimpleDon]

And no we can't all just save instead of going into debt. Look up the paradox of thrift. Basically it's if everyone saves there won't be any money to save. Money is created by debt. No debt, no money.