Key takeaways

Deflation is an economic condition in which the overall, sustained, or widespread decline in the price level of general commodities and services.

If there is insufficient money supply, it may lead to the accumulation of corporate debt and eventually result in deflation throughout society.

Deflation will lead to a reduction in total social investment, decrease in consumer demand, and impact on the redistribution of social income.

Conceptual Understanding

Deflation is an economic phenomenon that is opposite to inflation.

The main characteristic of deflation is an economic condition in which the overall, sustained, and widespread decline in the price level of general commodities and services, and it is not a regional decline or a temporary price decline.

What causes deflation?

The main reason for economic fluctuations lies in the money supply. If there is insufficient supply of money, it may result in the accumulation of corporate debt, leading to deflation in the entire society and even causing an economic crisis.

Deflation refers to the continuous decline in the overall price level of goods and services caused by a shortage of money supply compared to the actual demand for money in circulation.

Deflation includes a simultaneous decline in price levels, money supply, and economic growth rate. It is caused by a decrease in money in the market, a decrease in purchasing power, and a resulting decline in prices. Prolonged deflation will inhibit investment and production, leading to higher unemployment rates and economic recession.

The impact of deflation

Economists generally believe that when the Consumer Price Index (CPI) falls for two consecutive quarters, it indicates the presence of deflation.

Deflation generally has the following impacts on economic activities.

First, it leads to a decrease in total social investment.

On one hand, deflation will increase real interest rates, raise the actual cost of social investment, and lead to a decrease in investment. On the other hand, due to anticipated price declines, the decrease in expected investment returns will also lower business investment willingness.

The second is to reduce consumer demand.

During deflation, falling prices increase the real purchasing power of money, causing people to delay payments as much as possible, resulting in delayed consumption expenditure and a reduction in the scale of consumption.

The third is to impact the redistribution of social income.

Deflation will transfer the government's income to enterprises and individuals, mainly through reducing income taxes. This will cause losses for enterprises due to price declines, increase the real wages of workers, and result in a financial redistribution that favors creditors and disadvantages debtors.