Probability of Inflation or Deflation Essay

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Money and Inflation



One of the most challenging issues in the modern economic environment is whether inflation or deflation will occur in the near future. This issue has become controversial and divisive among economists because of the volatile economic times. The nature of the modern economic environment has made it difficult for economists to agree on whether inflation or deflation is likely to be experienced in the future. While some economic analysts hold the view that a big increase in inflation is likely to occur in the coming years, others contend that deflation will occur. An example of the difference in opinion relating to inflation or deflation is the publications by Paul Krugman and Allan H. Meltzer. Even though the two reports were published on the same day i.e. May 3, 2009, they provide opposite views on the issue of whether inflation or deflation is likely to occur in the coming years. This paper examines whether inflation or deflation is more likely in the next two years in the current economic environment.

Inflation and Deflation



Inflation occurs when an economy is characterized by the existence of too much money in comparison to demand for goods and services. On the contrary, deflation occurs when an economy is characterized by the presence of too little money in comparison to the demands for products and services. Inflation and deflation have significant impacts on individuals and the economy, particularly in relation to economic growth and development. According to Amadeo (2017), inflation hurts an individual’s purchasing power since it creates an environment where people have to pay more for similar products and services. While an individual could benefit from inflation is he/she has is a beneficiary of income inflation, his/her buying power decreases if his/her income does not increase or increases at relatively slower rates in comparison to the rate of inflation.

While inflation is primarily characterized by an increase in prices, deflation is characterized by decrease in prices. Similar to inflation, deflation is a by-product of persistent change in the amount of money vis-à-vis products and services. This essentially means that inflation and deflation are basically fueled by how much money is floating in an economy in comparison to products and services. However, they are also functions of changes in productivity and/or supply and demand of goods and services. Patton (2013) defined deflation as reduction in the general price level of products and services, which in turn increases a currency’s value and encourages people and businesses to hoard their money.
People and businesses hoard their money in anticipation of lower prices in the future, which creates a decline in demand for goods and services. If deflation persists for a protracted period of time, it eventually results in an economic depression.

Analysis of the Issue



In his publication, Meltzer (2009) stated that the United States is an inflation nation because of the actions undertaken by the Federal Reserve. He argues that inflation is likely to continue because the Federal Reserve control of the interest rate is nearly zero while bank reserves continue to increase enormously due to the Federal Reserve’s purchase of bonds and mortgages. Despite the assurances by the Fed and these financial institutions to lessen reserves significantly in order to prevent inflation, inflation is likely to remain in the coming years. This is primarily because there is no sound governmental policy and governmental plans like the stimulus program are likely to increase the government debt and do not increase productivity. Additionally, even with huge budget deficits, increased growth in the supply of money, and the likelihood of sustained currency devaluation, the United States will not experience deflation.



On the contrary, Krugman (2009) argued that the United States is likely to experience deflation in the coming years because of the increased decline in wages throughout the country. The decline in wages is fueled by the increase in wage cuts, which is an indicator of a sick economy that could even become worse. The decline in wages has been coupled with worsening job market that has forced many employees to accept wage cuts in attempts to save their jobs. However, when employers across the United States reduce wages simultaneously, workers will find it difficult to save their jobs, which will in turn generate higher unemployment rates. Therefore, the decline in wages does not benefit the economy, but worsens its problem and is likely to result in deflation in the coming years. While the government has adopted various measures to address economic challenges in the country, there are increasing risks that United States is likely to face years of deflation and stagnation.



As previously indicated, these two reports provide opposite different viewpoints on whether the United States is headed for years of inflation or deflation despite being published on the same day. The reason for the….....

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References

Amadeo, K. (2017, June 21). How Does Inflation Impact My Life? Impact on You and the Economy. Retrieved October 10, 2017, from https://www.thebalance.com/inflation-impact-on-economy-3306102

BISC. (2017, April 23). The Fed and the Balance Sheet: Shrinking the Giant. Retrieved October 10, 2017, from http://www.bsic.it/fed-balance-sheet-shrinking-giant/

Foundational Research. (2014, November 27). Inflation or Deflation: What is Next for the United States? Retrieved October 10, 2017, from https://seekingalpha.com/article/2715525-inflation-or-deflation-what-is-next-for-the-united-states?page=2

Krugman, P. (2009, May 3). Falling Wage Syndrome. The New York Times. Retrieved October 10, 2017, from http://www.nytimes.com/2009/05/04/opinion/04krugman.html?_r=1

Meltzer, A.H. (2009, May 3). Inflation Nation. The New York Times. Retrieved October 10, 2017, from http://www.nytimes.com/2009/05/04/opinion/04meltzer.html

Patton, M. (2013, July 1). Inflation or Deflation: Which is the Greatest Risk? Forbes. Retrieved October 10, 2017, from https://www.forbes.com/sites/mikepatton/2013/07/01/the-truth-behind-the-feds-monetary-expansion/#6f36ad897236

Wolfers, J. (2015, March 6). A Prediction Market for Inflation, or Deflation. The New York Times. Retrieved October 10, 2017, from https://www.nytimes.com/2015/03/08/upshot/derivatives-market-shows-a-rising-fear-of-deflation.html

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