• Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

Deflation more disasterous to an economy than inflation

Extracts from this document...

Introduction

Introduction "Both inflation and deflation are economically bad, but among the two evils, there is a lesser evil".( shweta mehra in his article deflation and inflation) The purpose of this essay is to show the meaning of the two terms, highlighting their effects in the economy and then showing why deflation could be more disastrous to an economy than inflation. Deflation vs inflation Inflation and deflation are among the aspects of macroeconomic instabilities which can occur in an economy. Both deflation and inflation are economically bad, but among the two monsters there is a lesser evil, and that is the later (shweta mehra) Inflation is generally seen as a situation of general substantial and rapid increase in the prices of goods and services thereby reducing the value of money in the economy over a period of time. There are different definitions of inflation by different economists. Mc Connell Brue defines it is as a rise in the general level of prices. Harry Johnson defines inflation as a sustained rise in prices. More so, Crowther, defines inflation as a state in which the value of money is falling. ...read more.

Middle

In an economy facing depression, output goes down due to reduction in economic activities and scale of production and consequently investment shrinks. Furthermore, due to the decrease in aggregate income, all the different classes in the society tend to be poor. Deflation brings mass unemployment into the economy. The level of employment contracts rapidly, financial income of people in the economy diminishes and therefore although the purchasing power of people is increased as a result of the fall in prices, they don't buy goods in the required quantity. Therefore aggregate demand falls, resulting to fall in profits of businesses which will in turn result in looses by the producers forcing them to curtail investment and output more. This leads to further decline in employment and income. For instance in the 1930s when price collapsed in the Western nations, unemployment soared with a quarter of the work force losing their job in most countries, economic activities crippled as banks collapsed and the few surviving ones refused to lend money. Deflation is so destructive to the economy because as prices keeps going down, businesses and individuals continue postponing their purchases hoping that prices will fall more and more thereby forcing demand to fall. ...read more.

Conclusion

Once deflation sets in, it puts pessimistic tendency into the consumers, demand contracts and investment cripples, unemployment rises, and eventually the economy will come to a halt because of low consumption rate. On the other hand, during inflation demand tends to rise because consumers will buy more commodities thinking that prices will continue to rice. (See fig 1.0) Graph interpretation The graph in fig 1.0 shows the 20th century graph of deflation and inflation in USA Using consumer price index (CPI). The CPI is graphed in blue color on the left axis while the right axis is showing the annual rate of change in the CPI either positive or negative, and it is marked in red. In inflation period, general prices are rising and that is indicated by a positive YoY change, the red line goes above zero line. The zero line is indicated by the tick gray line at 0%. When there is deflation, the red line goes below the zero line, that is change in YoY becomes negative. Inflation occurred more than inflation as shown in the graph. It was only during the great depression of 1930's that America experienced great deflation. This graph shows exactly how disastrous deflation can be to an economy (From inflation or deflation 2 by Adam Hamilton at zealllc.com). ...read more.

The above preview is unformatted text

This student written piece of work is one of many that can be found in our University Degree Macroeconomics section.

Found what you're looking for?

  • Start learning 29% faster today
  • 150,000+ documents available
  • Just £6.99 a month

Not the one? Search for your essay title...
  • Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

See related essaysSee related essays

Related University Degree Macroeconomics essays

  1. Evaluating the Health of the US economy. Analyse the macroeconomic policies of the ...

    The trend of widening inequality appears to be driven less by tax rates than by economic forces, such as wages that rise fastest for the skilled and educated. But some economists worry that American society and democracy will become less stable if this trend continues.

  2. Analysis of external debt: Romania vs Bulgaria

    In conclusion, in Romania, the purchasing power of exports is severely damaged by foreign debt. IV. Analysis of external debt - BULGARIA The World Bank classifies the Bulgarian economy as an upper middle income economy.

  1. The Global Economic Crisis. The present project analyses different approaches of the crisis ...

    Why this is the case will be explained after the following graph. The following graph will show how a fall in demand will cause the demand curve to shift to the left and, therefore a fall in the quantity supplied of cars to find a new equilibrium.

  2. The Policy Implications of the Relationship between Inflation and Unemployment in Canada (1967 ...

    that provide common definitions of unemployment and of the labour force" - OEDC (2008). Further information is supplied in Appendix 2. It is calculated using the formula (8) The inflation rate is calculated from the Consumer Price Index or CPI as defined by the OEDC as "the change in the

  1. Singapore Economics

    2.5 Infrastructure Singapore has been investing in infrastructure to make the country attractive for potential investors. Areas such as Jurong Island were developed into industrial parks to attract manufacturing firms. 2.6 Free Trade Singapore adopts a free market system so that local industries can response to market signals and adjust their strategies appropriately.

  2. FDI and MNC Create More Multiplier Effect to The Host Economy As Compared To ...

    the previous period, while growth in the region's gross domestic product was 50 percent lower. The reason was that FDI was concentrated in buying state-owned assets, such as mines or telecommunications companies, rather than creating new industries that provided new jobs and technology.

  1. The purpose of this coursework is to study the characteristics of inflation in the ...

    Chapter 1. Theoretical aspects of inflation 1.1 Inflation as a form of macroeconomic instability The term "inflation" began to be used for the first time in North America during the Civil War, 1861-1865. Under-inflation then began to realize the overflow channel monetary money signs leading to the depreciation of money and an increase in the general price level.

  2. A COMPARITATIVE ANALYSIS OF WHOLESALE PRICE INDEX AND CONSUMER PRICE INDEX IN THE INDIAN ...

    Why do we not consider the Consumer price index which gives a clearer picture on the current inflation rate? The reasons are as follows: 1. The WPI is used to measure inflation in India since an appropriate CPI is not available.

  • Over 160,000 pieces
    of student written work
  • Annotated by
    experienced teachers
  • Ideas and feedback to
    improve your own work