Inflation vs Deflation: or Lose Lose

[notP]

Hey all,

I was trying to learn a little more about the differences between inflation and deflation and their drawbacks. I was wondering if someone could point me in the right direction?

This is what I have so far using mainstream sources:

Inflation Pros: Encourages borrowing by reducing the real debt value over time, and the Fed’s power comes from “tampering” with interest rates, but only when inflation is happening, in an attempt to control or direct the market. In deflation the Fed has no power.

Inflation Cons: There is no benefit from saving, making the planning of retirement near impossible, short of investing and retiring in a boom. Encourages risky investment otherwise not made, and props up toxic assets and businesses. Enables wasteful government spending.

Deflation Pros: Encourages saving. Discourages debt accumulation.

Deflation Cons: Reduction in demand and market activity. Increases the real debt value over time.

Did I miss anything? I’ve come to the conclusion that we don’t really want either. A stable money supply seems the best course of action for everyone. Why is this never talked about?

Cheers,

[Smiling_Dave]

@notP

Inflation Pros: Encourages borrowing by reducing the real debt value over time,

1. Does it really encourage borrowing? The lender thinks "I am going to be repaid in worthless paper. So I better make sure I get my money back by charging a huge interest rate." And the borrower may not want to borrow in that situation.

2. Even if we grant for the sake of argument that inflation increases borrowing, is that what we want? The people in a country become richer by becoming more productive. And they become more productive by having better tools. So that if the money that is borrowed is borrowed by businesses to improve their capital [=tools] it’s a good thing [assuming they can also pay back. Otherwise that tells you the money should have been lent to someone else who can turn a profit]. But if the borrower is a consumer, or the govt, then the borrowed money won’t be used for capital formation. And every dollar spent by a consumer or a govt is a dollar [and a resource bought by that dollar] less that is available to the business community.

and the Fed’s power comes from “tampering” with interest rates, but only when inflation is happening, in an attempt to control or direct the market. In deflation the Fed has no power.

1. Do we really want the Fed to have power? A search will show that they have never succeeded in achieving their stated goal [stable prices and high employment], but quite the opposite.

And why should we want them to “control or direct the market”? Nobody asked me if that’s what I want. They were never elected by the citizenry. There is an assumption here that having you and I decide what is best for us is not good. Better to have some group get free money at our expense. Because that is what inflation is. Giving money to someone without them having to work for it.

2. The Fed has no power when there is inflation. It only has the power to create inflation. And to an extent it has the power to create deflation as well.

**

Deflation Cons:** Reduction in demand and market activity.

1. Says who? Please provise some evidence for this.

2. Also, who says reduction in demand is a bad thing, if that is what the economy needs.

Increases the real debt value over time.

Let us remember that it takes two to tango. In every loan there is a lender and a borrower. And so increasing the real debt value over time is bad for the borrower, but good for the lender. Why do we assume that the borrower is the good guy?

Did I miss anything?

You missed reading the short but sweet free book What Has Govt Done to Our Money by Rothbard, where these things are explained very clearly.

I’ve come to the conclusion that we don’t really want either. A stable money supply seems the best course of action for everyone.

1. If there is deflation, everyones purchasing power increases. Why is this bad?

2. In a world where the govt does not interfere, prices go down all the time. So "a stable money supply"would mean deflation. Meaning we agree. If you mean “a stable price system”, with the price of everything staying the same forever, that is impossible to achieve anyway. Prices are determined by supply and demand, factors which change constantly.

[Caley_McKibbin]

Those pros and cons and the ideal of stability are opinions not shared by everyone.

[notP]

Thanks for the input guys.

@Smiling Dave

1. Does it really encourage borrowing?

I would say it does, but that’s not necessarily a good thing. People respond to incentive, right? I can easily see it as an excuse to borrow, which is usually very dangerous if there is no realistic way of paying it back.

1. Says who? Please provide some evidence for this.

I have none other than mainstream economists touting it, but I was trying to be as unbiased as possible so I included that point of view.

2. Also, who says reduction in demand is a bad thing, if that is what the economy needs.

Banks that loan consumers easy credit. I’m not agreeing with it, but that’s the source I suspect.

You missed reading the short but sweet free book What Has Govt Done to Our Money by Rothbard, where these things are explained very clearly.

Then I will give it a read. Thanks for the suggestion. I should have just asked for that in the first place.

1. If there is deflation, everyones purchasing power increases. Why is this bad?

Heh, that’s exactly what I’m trying to figure out. Every article I’ve ready in the recent past, claims that deflation is “bad”, and its much harder to get an opposing point of view.

Thanks for the input, I’ll download that Rothbardian wisdom tonight and give it a close read.

Cheers,

[billott1]

You missed the worst effect of inflation, Inflation is the cause of the business cycle. There is a library of data on the business cycle on this web site. There is even a rap video.

As for deflation, Deflation is repricing of assets by markets when real consumer prices are revealed. I do not believe that this is bad and believe it to be propaganda given out by the central banks and governments who are out to keep their friends in business at the expense of employees and savers.

[M1ThinkTank]

As for deflation, Deflation is repricing of assets by markets when real consumer prices are revealed. I do not believe that this is bad and believe it to be propaganda given out by the central banks and governments who are out to keep their friends in business at the expense of employees and savers.

Shouldn’t employees and savers be concerned about business doing well? Since business hires the employee, and the saver is probably invested in the stocks or bonds of a business?

I don’t really want to do the whole inflation/deflation debate, I just wanted to point out that your reasoning was somewhat one-sided. I’m pretty much on board with the idea that we should allow inflation/deflation to occur as naturally as possible.

[M1ThinkTank]

**And every dollar spent by a consumer or a govt is a dollar (and a resource bought by that dollar) less that is available to the business community.

**

When consumers consume, do they not give their money to businesses? Businesses use earnings to buy tools, too.

**1. If there is deflation, everyones purchasing power increases. Why is this bad?

**

It’s bad if you made purchases/investments before deflation started, such as a business buying new tools or building new inventory.

[Smiling_Dave]

And every dollar spent by a consumer or a govt is a dollar (and a resource bought by that dollar) less that is available to the business community.

When consumers consume, do they not give their money to businesses? Businesses use earnings to buy tools, too.

Very good question. To answer, let’s see the definition of consumption.

consume:

1. to destroy or expend by use; use up.

2. to eat or drink up; devour.

3. to destroy, as by decomposition or burning: Fire consumed the forest.

4. to spend (money, time, etc.) wastefully.

That is from dictionary.com, and he has a good point. Consumption always destroys a resource. Whatever steel etc. is in the new car I bought is now unavailable for building a factory.

Now, if the consumer had earned that money by working, that means he had produced something and gotten paid for it. His consumption is the reward for his labors. So that his destruction has already been compensated for by his previous productivity. But if he borrows money, alot of it, like credit crad companies hand out en masse and like govts like to spend, the consumer and the govt are consuming [=destroying] on a vast scale without having previously produced. Bottom line: Destruction of resources.

As for the consumer giving his dollars back to the companies by buying their product, that means the business is last in line. It won’t get the money until after the consumer has spent it. By which time the resources the business needs are gone.

Also, does every business make enough profit from earnings to expand all they want? Then why do they ever borrow money? And what of a start up company that has few customers now, but has something to offer if given a chance?

Also, how can we be sure that the consumers will distribute their money the same way that a bank would when deciding which business is worthy of a loan?

[Smiling_Dave]

1. If there is deflation, everyones purchasing power increases. Why is this bad?

It’s bad if you made purchases/investments before deflation started, such as a business buying new tools or building new inventory.

They will be selling their product and getting paid in money that has more purchasing power. So they will still turn a profit in real terms. Of course had they delayed their purchases/investments till prices went down, they would have saved money, but on the other hand they would have lost time.

But it goes deeper than that. An economy that encourages mad consumption will use up its resources.
Which is what inflation does. An economy that encourages saving and delaying consumption will get wealthier. Which is what deflation does.

After all, if you knew that the money you put in the bank will be worth more in twenty years, would that not encourage you to save it for your retirement?

[M1ThinkTank]

Consumption always destroys a resource. Whatever steel etc. is in the new car I bought is now unavailable for building a factory.

How is building a car destruction of a resource, while presumably building a car factory is not?

Now, if the consumer had earned that money by working, that means he had produced something and gotten paid for it. His consumption is the reward for his labors. So that his destruction has already been compensated for by his previous productivity. But if he borrows money, alot of it, like credit crad companies hand out en masse and like govts like to spend, the consumer and the govt are consuming [=destroying] on a vast scale without having previously produced. Bottom line: Destruction of resources.

Sure, the consumer hasn’t produced. But someone did. Savers(who have produced more than necessary) invest in a company like AXP, who loans money to consumers, who use that money to buy TVs from electronic stores, who uses that money to pay suppliers, employees, and the owners. The original producer, the saver, is rewarded for producing by earning a return on his investment. Doesn’t the saver’s production make up for the consumer’s lack of production?

As for the consumer giving his dollars back to the companies by buying their product, that means the business is last in line. It won’t get the money until after the consumer has spent it. By which time the resources the business needs are gone.

Why are we assuming that the resources that the business needs are gone by the time the consumer spends his money?

Also, does every business make enough profit from earnings to expand all they want?

Obviously not.

And what of a start up company that has few customers now, but has something to offer if given a chance?

Could sell debt or equity to raise the required capital. Which I know you know, just sharing that I know, also.

Also, how can we be sure that the consumers will distribute their money the same way that a bank would when deciding which business is worthy of a loan?

You can’t be 100% sure, but I think you can be pretty sure. If a bank doesn’t think a business can earn enough revenue from sales to pay interest on debt, they probably won’t loan them the money. I’d be willing to bet that the amount of that a business can borrow is highly correlated ot it’s earnings potential, as it should be.

[M1ThinkTank]

They will be selling their product and getting paid in money that has more purchasing power. So they will still turn a profit in real terms. Of course had they delayed their purchases/investments till prices went down, they would have saved money, but on the other hand they would have lost time.

What if they had borrowed to be able to produce goods? Now their debt is more expensive. Regardless of how much purchasing power each dollar has, they are taking in less dollars while owing the same amount of debt. In addition, the decreased ROA on whatever assets they bought with the debt might not be enough to justify whatever borrowing was done.

But it goes deeper than that. An economy that encourages mad consumption will use up its resources.
Which is what inflation does. An economy that encourages saving and delaying consumption will get wealthier. Which is what deflation does.

I can see how inflation might do that. Spend it while it’s worth something.

However, I don’t see how saving in and of itself will make an economy wealthier. If savers loan their money to others, that money is still spent, just by others. If savers just bury their money, then they might not have a source of income to build their savings for long. Businesses can’t earn money to pay employees if everybody saves everything.That doesn’t mean we should go on a debt binge and consume everything, but there definitely needs to be a better balance.

After all, if you knew that the money you put in the bank will be worth more in twenty years, would that not encourage you to save it for your retirement?

Yes, it could encourage me to do so. As long as I had my 60" plasma first (kidding).

[Smiling_Dave]

Consumption always destroys a resource. Whatever steel etc. is in the new car I bought is now unavailable for building a factory.

How is building a car destruction of a resource, while presumably building a car factory is not?

I like the challenging q’s.

It all depends on the use we get from the steel in helping us make more stuff. The car bought by a consumer is presumably going to be used to have fun. That is the case we are considering when we say a “consumer” borrowed money to buy the car. The car factory is to be used too make more cars, i.e. increase the wealth of the nation.

Now, if the consumer had earned that money by working, that means he had produced something and gotten paid for it. His consumption is the reward for his labors. So that his destruction has already been compensated for by his previous productivity. But if he borrows money, alot of it, like credit crad companies hand out en masse and like govts like to spend, the consumer and the govt are consuming [=destroying] on a vast scale without having previously produced. Bottom line: Destruction of resources.

Sure, the consumer hasn’t produced. But someone did. Savers(who have produced more than necessary) invest in a company like AXP, who loans money to consumers, who use that money to buy TVs from electronic stores, who uses that money to pay suppliers, employees, and the owners. The original producer, the saver, is rewarded for producing by earning a return on his investment. Doesn’t the saver’s production make up for the consumer’s lack of production?

1. Fee fi fo fum, I smell Keynesian assumptions. Especially that “produced more than neccesary” line. Why do we need make such a statement? The case under consideration is the govt deciding to print money and spend it, or give it to consumers to spend.

2. OK, lets do the book keeping to answer your question. The amount of money people have before the govt prints more represents the amount of productivity they have created, for which they were paid off in dollars. For ease of calculation, let us say that the wealth of the nation in goods is worth a trillion dollars, and the amount of money everyone has is also a trillion bits of paper money. So that nobody gets to consume unless he had already produced the precise amount he wants to consume.Now the govt prints another trillion and spends it. What have they produced in the amount of a trillion bucks that justifies their getting a trillion worth of stuff to consume? Nothing. They will consume a trillion cookies, and the supply of resources will be depleted by a trillion bucks. It matters not that someone has already baked the cookies, because the baker also has money to spend. Thus the resources will be devoured. The nation is poorer.

As for the consumer giving his dollars back to the companies by buying their product, that means the business is last in line. It won’t get the money until after the consumer has spent it. By which time the resources the business needs are gone.

Why are we assuming that the resources that the business needs are gone by the time the consumer spends his money?

I can’t say which business would have used the depleted resources, but the fact is they are gone. They have been consumed. So someone will have to make do with less.

Also, does every business make enough profit from earnings to expand all they want?

Obviously not.

And what of a start up company that has few customers now, but has something to offer if given a chance?

Could sell debt or equity to raise the required capital. Which I know you know, just sharing that I know, also.

Also, how can we be sure that the consumers will distribute their money the same way that a bank would when deciding which business is worthy of a loan?

You can’t be 100% sure, but I think you can be pretty sure. If a bank doesn’t think a business can earn enough revenue from sales to pay interest on debt, they probably won’t loan them the money. I’d be willing to bet that the amount of that a business can borrow is highly correlated ot it’s earnings potential, as it should be.

That sounds right. Need help with that point.

[Smiling_Dave]

It is true that we cannot be sure that someone who borrows in a deflationary atmosphere is not guarenteed to make money. But why is that our concern? He is an entrepeneur. His business is to take calculated risks and to be rewarded for them when he guesses right. In the 19th century I think there was deflation for a long time. Did the banks close up shop, because nobody wanted to borrow money? No. Did the nation get wealthier and wealthier? Yes.

The atitude pushed by the govt is that the borrower must be protected. That’s because they are the biggest debtors. But there is no justification for such an atitude, as explained in earlier posts. The correct course of action is just stay out of the way and let everyone make their own decisions.

As for the q about saving creating wealth, very few people bury their money in the ground. [And if they do, they are benefitting consumers all across the country by increasing the purchasing power of the money in circulation.] They put it in a bank. And indeed if the bank lends it to a consumer that is bad. We are talking about the bank lending it to businesses that want to make more capital, which will increase the productive capacity of the nation, creating wealth.

As for “creating a better balance”, who is the Godlike prophet [ands honest man] who knows the correct balance [and to whom to give the printed money?] Economies have thrived when govts did not interfere, and collapsed when they did.

Wouldn’t mind a plasma TV meself.

[joepierce1988]

Does it really encourage borrowing? The lender thinks "I am going to be repaid in worthless paper. So I better make sure I get my money back by charging a huge interest rate." And the borrower may not want to borrow in that situation.

Debt Management Advice

[joepierce1988]

Debt Management Advice