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Opinion from a Libertarian ViewPoint

Forget What the “Experts” Claim about Deflation: It Strengthens the Economy

Posted by M. C. on May 10, 2022

Nonproductive Activities Come from Lending Fake Money

https://mises.org/wire/forget-what-experts-claim-about-deflation-it-strengthens-economy

Frank Shostak

For most experts, deflation is bad news since it generates expectations for a continued decline in prices, leading consumers to postpone the purchases of present goods, since they expect to purchase them at lower prices in the future. Consequently, this weakens the overall flow of current spending and this, in turn, weakens the economy. Economic activity, believe the experts, is a circular flow of money. Spending by one individual becomes the earnings of another individual, and spending by another individual becomes a part of the previous individual’s earnings.

If people have become less confident about the future decide to reduce their spending, this weakens the circular flow of money. Once an individual spends less, this worsens the situation of some other individual, who in turn also cuts his spending.

According to the former Federal Reserve chairman Ben Bernanke,

Deflation is in almost all cases a side effect of a collapse of aggregate demand—a drop in spending so severe that producers must cut prices on an ongoing basis in order to find buyers. Likewise, the economic effects of a deflationary episode, for the most part, are similar to those of any other sharp decline in aggregate spending—namely, recession, rising unemployment, and financial stress.

Murray Rothbard, however, held that in a free market the rising purchasing power of money (shown by declining prices) makes goods more accessible to people. He wrote:

Improved standards of living come to the public from the fruits of capital investment. Increased productivity tends to lower prices (and costs) and thereby distribute the fruits of free enterprise to all the public, raising the standard of living of all consumers. Forcible propping up of the price level prevents this spread of higher living standards.

Economist Joseph Salerno adds: 

Historically, the natural tendency in the industrial market economy under a commodity money such as gold has been for general prices to persistently decline as ongoing capital accumulation and advances in industrial techniques led to a continual expansion in the supplies of goods. Thus throughout the nineteenth century and up until the First World War, a mild deflationary trend prevailed in the industrialized nations as rapid growth in the supplies of goods outpaced the gradual growth in the money supply that occurred under the classical gold standard. For example, in the US from 1880 to 1896, the wholesale price level fell by about 30 percent, or by 1.75% per year, while real income rose by about 85 percent, or around 5 percent per year.1

Money and Money out of “Thin Air”

Money emerged because it could support the market economy more efficiently than barter. The distinguishing characteristic of money is its role as general medium of exchange, evolving from the most marketable commodity. On this Ludwig von Mises wrote

See the rest here

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