In the article posted here in the BTC subreddit, http://krugman.blogs.nytimes.com/2010/08/02/why-is-deflation-..., Krugman has 3 points which he proposes are the reasons why "deflation" is bad...
So first of all: when people expect falling prices, they become less willing to spend, and in particular less willing to borrow.
A second effect: even aside from expectations of future deflation, falling prices worsen the position of debtors, by increasing the real burden of their debts.
Finally, in a deflationary economy, wages as well as prices often have to fall – and it’s a fact of life that it’s very hard to cut nominal wages — there’s downward nominal wage rigidity.
I'll address these points in the order above.
People being less willing to exchange their money for goods under the expectation that goods will be relatively cheaper in the future is not a problem. Let's look at the obvious examples where Krugman is incorrect. Computers, TVs, technology in general... If i buy a computer today for $2000, i got a reasonable laptop by today's standards. However if i wait until 6 months from now and spend the same $2000, i get a much more powerful computer (relatively) because of the progression of technology over that period. So essentially, i'm getting more for my money by waiting. Same applies for TVs and lots of other goods.
If Krugman was right, why would ANYONE buy a computer today? we would all wait for 6 months, but under that rationale, no one would EVER buy a computer because they would be waiting for the next better one to come out. Obviously this is not the case, there is replacement cycles and economic life to assets which need to the replaced. Someone is always willing to exchange their work (money) for goods, the exchange rate is simply a function of supply and demand.
Willingness to borrow in my opinion shouldn't matter because the same rationale above applies. When i decide the price is right, i will buy something. If i think the price is too high, I will wait. This is how a competitive economy is meant to function.
Deflation is a natural process in the business cycle in a correctly functioning economy. Deflation signals that there is too much production, and not enough demand. Deflation leads to lower prices on goods which will drive the less competitive businesses out of the market. Once they're out of business because their costs of production are too high, supply will have been reduced in the sector, and prices will reach a new equilibrium. On the flip side, inflation is an indication of demand outpacing supply, prices increase, leading to more companies entering the sector, which increases supply, putting a halt on the inflationary pressure, (basic supply and demand).
IMO, the only things which would naturally be in a state of inflation would be rare non renewable commodities without a substitute. Oil is a somewhat rare non renewable resource, but at the right price, a switch to Natural gas will occur, and as non renewable fuel sources become more scarce, their price increases will simply lead to a higher value for alternative energy sources (i.e. solar, nuclear, hydro electric, wind...). If there is a demand for a product or service, there will always be a price for it, as I want to exchange my "work" for that of someone else. Deflationary spirals are only an issue for over leveraged systems (like ours), but it is not an issue with deflation, it's our current system which is in error. Don't hate deflation, hate the system.
Worsening the position of debtors without the offsetting positive of creditors. This is not a problem. It's a signal that debtors took on too much debt or the wrong type of debt (variable vs fixed) without a long term perspective on interest rates or the economy.
In a REAL economic system, interest rates are the Traffic Signals for the economy (read Jim Grant). When there is a glut of savings, rates should go down, which will cause some people to save less and spend more, balancing out the economy. Vice versa, when there is insufficient savings, rates should rise, stimulating people to save more which would balance out the pressure on the interest rate rise over time. This would occur naturally because people would understand that investing their money at 2% for an investment they perceive to be risky would not be sufficient reward for the risk of their savings. Thus people would say no, we want >2% to compensate for their investment (parting with their savings).
In a properly functioning economic system, there would be no interest rate fixing by central banks or governments, savers and borrowers would face supply and demand for their money and borrowing costs. Artificially low borrowing costs at the expense of savers does the most terrible thing possible, causes mis-allocation of capital. Instead of slowing down the growth of sectors of the economy which are not sustainable, NZIRP (near zero interest rate policy) and rate fixing pushes more money into these sectors as the companies try to invest more in capital to try to lower their costs or increase efficiency. The supply of credit is not able to change due to interest rate fixing and money printing.
Over-investment in capital and industries without sufficient demand for their goods causes a net loss to the overall economy (i.e. housing, US auto makers, Solar Cell companies...) as the same capital should have been invested in other projects or companies which would pay sufficient returns to compensate for their risks (new industry, technology...).
Wages, there's nothing wrong with dropping wages when overall prices are dropping. If you believe in a "minimum wage", then you shouldn't advocate for a true market system because in the market system needed to have deflation, prices of wages would have to change along with the economy in general.
Deflation of wage prices would occur when there is a glut of workers willing to work for less than the current salaries. On the flip side, when there is a worker shortage, wage inflation would occur, something you would see in specialized industries experiencing growth.
As overall population growth occurs, there would be a natural trend of deflation on wages in "low skill" jobs. This is kind of a moot point though, as anyone who looks at the statistics will see, the minimum wage in the 60's is equivalent to $10/hr in inflation adjusted dollars today, where the US gov's is suggesting $9/hr in min wage today.
So we're ALREADY experiencing relative wage deflation, this should be a natural trend in an economy where the supply of labor (population), is growing compared to the demand for labor. Nothing wrong here. Nominal wages are hard to cut, I agree, but right now the government just stimulates inflation instead to cause the EXACT SAME OUTCOME. In a market system, all prices would be simply a reflection of supply and demand, wages, interest rates, medicine, computers, food...
Deflation is a natural force, embrace it and we can all be more prosperous. Government mandated inflation is an indirect tax on the economy.
