Deflaation

Deflaation, more commonly spelled deflation, is a sustained fall in the general price level of goods and services in an economy. It is the opposite of inflation and is typically measured by price indices such as the consumer price index (CPI) or the GDP deflator. Deflation can occur with weak demand and rising real debt burdens, and it can accompany disinflation, a slowdown in the rate of price increases.

Causes of deflation can be broadly categorized into demand-side, supply-side, and monetary factors. Demand-side deflation arises when aggregate demand declines due to recession, deleveraging, or pessimism about the future. Supply-side deflation results from rapid productivity gains or technological progress that lower production costs and prices. Monetary factors include a contraction in the money supply or credit, which reduces spending and pushes prices downward.

Effects of deflation are often adverse for an economy. It raises the real value of outstanding debt, discourages consumer and business spending, and can lead to higher unemployment. If expectations of falling prices become entrenched, households and firms may postpone purchases, potentially creating a deflationary spiral where weaker demand begets further price declines and economic weakness.

Measurement and policy: Price indices such as the CPI, core CPI (excluding volatile items like food and energy), the PCE price index, and the GDP deflator monitor deflation. Central banks typically respond with monetary easing, lower policy rates, liquidity support, and sometimes unconventional tools; fiscal policy and debt relief can also help. Notable historical episodes include deflation during the Great Depression and Japan’s long period of price declines, with ongoing vigilance in other economies.