MONEY 56 - INFLATION/DEFLATION

THIS IS MY 56^TH BLOG ON UNDERSTANDING MONEY TOOLS

I recently read an article on inflation by a so-called economic expert, and that lead me to want to comment on inflation versus deflation. In the article the gentleman covered inflation fairly well and its destructive points, and touched very lightly on deflation, which I felt he favored over the two.

First to inflation. Currently, three countries come to mind that have higher than desired inflation, those being Venezuela, Iran and Argentina. Argentina has been up and down with its economy over the years. It reached a point of hyper-inflation around 1990 when inflation reached well over several thousand percent per year. I feel inflation of around 3% is healthy and beneficial; this encourages spending. Corporations will spend on capital improvements and expand if they know things will only cost more down the road. Some inflation makes people spend and buy now rather than wait and pay more for things in the future. If the US was not the world’s safe-haven for investment and the dollar as the safe haven for currency, the dollar would not be as strong as it is with the dilution that has taken place in our currency.

Inflation occurs with 1) more demand than supply 2) adding to a country's supply of money or 3) too much money in circulation. As previously covered, we now have printed about $4.5 trillion in our QE 1-3, however the circulation of the money never made it to main street therefore inflation has not been an issue.

Also to note is that there is a big difference between “moderate inflation” and “hyper-inflation”. Hyper-inflation normally occurs when there is an economic collapse of an economy or people have lost faith in the country’s currency. A prime example of that was Germany in the mid-1930s prior to WWII. When this occurs natural supply and demand is disrupted. People buy as much as possible because they will be paying much more at anytime in the future. When this happens supplies run dry.

I believe that deflation (negative to any inflation/lowering of costs) can be worse than moderate inflation. During deflationary times people buy things today if they “need” items, however they won’t buy “want” items today if they can be bought at a lower cost in the future. We experienced this on a major scale in 2007-8 when our US housing markets collapsed losing 50-60% of values in many parts of the country. What was supposed to be the best and most solid investment of our lifetime, the home, turned into a disaster; devaluations/deflation. This situation now is hurting the recovery of the single family home building industry. In so many ways Americans are uncertain of the future.

People won’t spend money in deflationary times, and hoard their currency.  This impedes growth and restrains Gross Domestic Product. Several countries are experiencing this, therefore they are printing money, Japan being one of the prime illustrations. The European Union is another example of this although not as concerning.

A word bantered around to day is “disinflation”.  This is the lowering of a base line inflation. For instance, if inflation is running at 3.4% and then it drops to 2% the result is disinflation. Once we drop below 0 inflation it is considered deflation.

Another influence on deflation around the world is age. People in many countries are not having the historical number of children and the average age is increasing, this is affecting our economic balances. Older people do not spend money like younger people with families.

Anyway, we will leave the topic with this.