use a simple, one syllable word everyone should be able to
understand. NO. Did you catch that? No. No. No. No deflation.
“Why would anyone worry about deflation?” - I know that is the next
question. And it’s a logical one, considering we all have other
things to think about, i.e. braces, mortgages, car payments,
employment, etc.
Please allow me to mention that the topic of deflation is extremely
broad and I apologize for the ramblings of the following article. I
will touch on this subject in upcoming months.
The reason deflation might be a cause of concern is that
a). the
talking heads on television talk about it,
b). the cost of a “basket
of goods” falls making things cost less,
c). consumers can get into
the mindset of ‘If I wait to make this purchase next month, it’ll
cost less’.
I’m all for lower prices but they need to come from savings made
from efficiencies of production, not deflation. This kind of
deflation is what we experience as Company X moves its plant to
Mexico and produces widgets for Walmart to sell. When the plant was
in the U.S. the widget cost $5, since the move you pay only $4. This
is the good deflation.
Let’s look at the examples from above shall we?
We can dismiss the talking heads, in general the guys on t.v. don’t
really know what they are saying due to the fact most are either
reading what the staff writer produces, or they are out of touch with
the working world where people receive a paycheck for what they
actually do.
As for the “basket of goods” also known as the Consumer Price Index
be aware that this is a government moon-in-the-sky means of defining
what it costs for the consumer (you) to purchase these products. This
basket contains things like food, beverages, housing, clothes,
transportation, health care, recreation, education, communications,
and other services. Check out http://www.bls.gov/cpi/home.htm for the
full boring details.
If you want to see how the dollar has shrunk over the years when it
comes to purchasing power go to
http://minneapolisfed.org/research/data/us/calc/. It’s amazingly
sickening how little our money buys today.
Now the biggest problem with this “basket of goods” concept is that
energy (like gasoline and oil) and well as food are both considered
volatile products - they fluctuate in price much more than does the
cost of a doctor visit or a pair of blue jeans. So sometimes you will
hear the Adjusted Consumer Price Index this means the person
calculating the CPI has left out the more volatile items to make the
news better or worse depending on what they want.
Generally, what the CPI best measures is the rate of inflation as
the goods in the basket increase in cost from year to year through
the natural course of doing business. Whenever the production line
employee gets a raise, the consumer gets to pay a few pennies more
for the product. Same goes for any other production cost increase -
the consumer pays more. This is called inflation.
The third reason to pay attention to the talk of deflation is that
if it occurs again like it did during the Great Depression of the
1930’s, the country will be in a world of hurt. Demand deflation si
when consumers start noticing that the cost of a washing machine -
for example - is $50 less this month than last and $75 less than two
months ago. Consumers are no idiots, when this trend is obvserved
guess what happens? They start to think that if they wait till next
month they can buy it for a savings of $100.
The above scenario is a reduction in spending - consumers delay
making purchases leaving producers with too many products forcing the
price down as they try to unload the items at any price.
A similar cause of deflation is the result of hoarding. When
consumers refuse to spend their money less money is in circulation
and there will be glut of goods and producers have to reduce prices
in an attempt to get the buyer to part with their cash. This is
doubtful to be seen again in America due to the excess of available
credit, but never say never. Crisis have been known to happen and the
credit lines could dry up.
So we have several causes of deflation
1). Lower cost of production
due to efficiencies
2). Less demand for goods,
3). Less money in
circulation (hoarding).
Why do I believe we are not experiencing a period of deflation, nor
are we about to? Because of the other governmental statistics. The
supply of available money has grown over the last 12 months by nearly
7% - so there is no hoarding. Also the CPI that “basket of goods” has
increased by about 2.2% (depending on what statistician you listen to
and what is included in the CPI) so if the cost is increasing, than
we are talking about inflation, not deflation.
Roger Sorensen
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Tags: consumer spending, deflation, economic deflation, economics, finance tip, growth index, Inflation