Thursday, July 2, 2015

Price Deflation is Not a Disaster, But a Blessing

By Jesús Huerta de Soto and Philipp Bagus

he ECB has finally launched its own open-ended Quantitative Easing (QE) planning to buy securities worth of €1.1tr euros. This unprecedented move requires a convincing justification. One argument in favor of QE is the low rate of price inflation in the Eurozone which allows the ECB to sell its program as countering a slide into deflation. Deflation is widely considered as the worst case scenario. The Economist claimed that deflation is “the world´s biggest economic problem”. Christine Lagarde called deflation an “ogre.”

But is the deflation phobia really justified? Is price deflation a problem for the economy as a whole?

To answer the question it is important to take an unbiased look upon the phenomenon of decreasing prices. A price is simply a historical exchange relationship. In every exchange there are two parties, a buyer and a seller. Of course, when prices fall, buyers benefit. It is true that falling prices cut the sales revenues of companies. Yet, essential to companies are not the sales but profits, i.e. the difference between revenues and costs. Companies can earn profits at higher and at lower price levels, depending on what happens on the cost side.

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