When talking about economic problems, inflation is most often mentioned – rising prices that reduce the purchasing power of money. However, its opposite, deflation, can be no less destructive. Falling prices seem beneficial to consumers, but in the long term it leads to economic recession, reduced incomes and mass unemployment.

What is the danger of deflation?

Deflation is a general decrease in the price level of goods and services, which is accompanied by a decrease in the money supply in the economy. It creates a chain reaction of negative consequences.

• Decreased consumer demand. When prices fall, people postpone purchases in anticipation of even greater reductions. This leads to a drop in sales and a decrease in company income.
• Rising unemployment. Companies that are losing profits due to falling prices and demand begin to cut costs, including laying off workers. This exacerbates the problem, as the population has less money to spend on purchases.
• Aggravation of debt problems. In conditions of deflation, the cost of money rises, and debts become heavier. Borrowers are having more and more difficulty making payments, which leads to a wave of bankruptcies.

Main causes of deflation

Deflation can occur for various reasons, but most often it is associated with global economic shocks.

• Decline in consumption and investment. If people and companies start spending less, the economy slows down and prices fall.
• Excess of goods and services. If production exceeds demand, businesses have to lower prices to sell their goods, which triggers deflationary processes.
• Tight monetary policy. If the central bank restricts the money supply (for example, by raising interest rates), there is less money in the economy and prices begin to fall.

How to fight deflation?

The state and central banks use several tools to prevent and fight deflation.

• Stimulating consumption. Tax cuts, wage increases, and subsidies help people spend more money, which supports demand.
• Lowering interest rates. Cheap loans make loans more affordable, stimulating investment and consumption. This helps maintain economic growth.
• Increase the money supply. Central banks can inject additional money into circulation (e.g. through quantitative easing programs) to prevent liquidity shortages.

Deflation is a serious challenge for the economy, leading to lower consumption, higher unemployment, and debt crises. To avoid these consequences, governments use various stimulus measures, such as lower interest rates and increased money supply. Maintaining a stable price level is the key to sustainable economic development.