Inflation encourages the savers to put their money to work (by investing in the stock market, for example) so that the amount of money that they have increases in proportion to the growth of the overall economy. This is a benefit.
You can't have it both ways. Either consumption is encouraged via inflation or investment is encouraged. For example, say that prices were slightly deflationary, as they are with computer equipment, across the board.*
I could easily make the case that saving goes up! Why? Well if I took my goldbucks and lent them to you at 1% interest we would both be happy. My total return would be something like 3% per year (2% deflation + 1% interest) non-risk adjusted. You would be happy because there are plenty of people that are willing to lend money to you. Because you have access to lending capital, you hire more decreasing unemployment. You can try to make the case that you wouldn't hire because there would be no demand for your goods, but in practice there are A. Other countries, and B. A precedent that people do continue to buy, even during deflationary pressures.
The reason people buy computers and cars despite the fact that they are becoming better and cheaper as time goes on is that they expect that cars and computers are going to continue to get better and cheaper as time goes on. They know that they will face the same "save or spend" decision 2 year later, and they really do need a computer and a car.
The problem with inflation is that "encouraging spending" practically only happens to the poor or middle lower class. I can afford to research gold, silver, lithium, cesium, grain futures, bitcoins, etc. and protect my assets from long term depreciation, but they can't. So you end up with a class of people that have a negative net worth, that is totally unprepared for long term retirement.
* I know that money velocity starts to make a difference, but it is in effect the same as printing more money.
Inflation/deflation has very little impact on the poor; the poor spend almost 100% of their income within a short window of receiving it just to survive. From the view of poverty, saving money is a rich man's luxury, and worries about inflation/deflation rates goes along with it.
For those with excess money, inflation does encourage investment. Under a steady inflationary pressure, it is irrational to hoard your excess money under a mattress or put it in the bank and earn interest, because interest won't keep up with inflation. Your money evaporates away under that scenario. Instead, if you want to act rationally, you would look for other places to put your money where it could outperform inflation. That's the only way you have a chance of holding onto the value it represents.
Deflation discourages spending, but it also discourages investment. Sure, you could justify rolling the dice on some investments to try to outperform the constant bump in value you get every day from deflation, but why bother with that extra risk? If you just sit on your money, trying not to spend it, you'll have way more value in the future than you could ever hope to get out of it today.
This isn't about saving vs. spending, it's about using money for what money is meant for -- exchange of value for value, not as a durable permanent store of value.
The poor and lower middle class do not spend 100% of their money 100% of the time. But nearly 100% of any saved money a poor person has is in the form of raw cash, or non-interest paying bank accounts.
The rich can afford to move their money to more stable currencies and commodities in an inflationary environment. They are more likely to have insights and are way less likely to spend a large portion of their wealth year-to-year.
I disagree that deflation discourages investment. Given a stable deflationary rate rational actors will look at the returns their fellow citizens are getting (from say a mutual fund, or even government bonds) and will conclude that their purchasing power can be furthered.
Furthermore, the United States had a (quazi) gold standard for years, as did most of the world, and investment continued.
Deflation removes some of the incentives for investment, but I agree -- not all of them.
And in practice, to most rational actors a mild deflation is almost indistinguishable from a mild inflation. It's when either of those swing wildly that we have issues. Bitcoin increased in value 11x in the six months from Sep'10 to Feb'11. That would be a major problem if we were all using bitcoins instead of dollars.
It's not just the wild swings; it's the systematic tendency towards deflation [mild or otherwise] inherent in Bitcoin: a closed Bitcoin economy reaches zero deflation only where population and productivity growth is zero.
Mild deflation is indistinguishable from mild inflation to a rational investor only where he expects said mild deflation to be temporary, offering him positive average returns on long term investments.
"For those with excess money, inflation does encourage investment." If they have their savings in a bank account, it's invested anyways via lending so inflation doesn't change the amount invested. What it can change is how wealth is invested, e.g. high inflation causes people to abandon the currency as a store of wealth - you get people buying and "hoarding", say, appliances they don't need as a store of wealth whose nominal ROI is higher than bank interest on savings accounts.
It is undoubtedly true that high inflation is bad. Very bad.
What you want, ideally, is a currency whose value doesn't fluctuate much at all in the short term, and which has a long term trend towards slight inflation.
Actually you can have it both ways. In an inflationary economy there are essentially two viable alternatives: consumption or saving. Holding cash above and beyond the amount needed for liquidity is an irrational preference.
In a deflationary economy, it becomes a very valid option which will serve to drive down the other two, particularly investment in productive assets
In a deflationary economy, holding cash offers a net return equivalent to the average investment return, without the associated risks or loss of liquidity. Essentially investment would become equivalent to spread betting (the costs of running an investment operation being analogous to the bookmaker's spread which makes it certain the average investment returns a loss); you'd only consider it if you thought you were a lot smarter than the rest of the market.
Given falling prices, it would also be more appealing to delay consumption than it is now, though people would still need and want things.
The economy won't come to a complete standstill - people people would continue to buy what they need and some investors would be tempted to gamble. But it would certainly slow down.
Do any desirable economic conditions come out of a deflationary system? What I mean is, is there any economic outcome desired by any world view that is best served by continuous monetary deflation?
If someone wanted the social trend to be towards historic lifestyles, would deflation accomplish that? It's hard to phrase what I am trying to ask so I hope I am being clear. Imagine that someone wanted everyone to live like the Amish. Would persistent deflation accomplish that? Would persistent deflation produce a world where people spend less of their time feverishly trying to make more money and more of their time enjoying what they already have? Would persistent deflation reduce the rate at which we destroy the environment around us?
If inflationary economic systems reward those with money to leverage into investment returns, do deflationary systems reward those who do not? If inflationary systems encourage people to lend out the product of their labor to others to use to create their own wealth, do deflationary systems discourage this, and if so, would the result be that it would be harder for people who are at an economic disadvantage to better their situation? Conversely, would it be harder for people who are at an economically advantageous position to increase their wealth because investment vehicles are less numerous and more risky?
I get the feeling that some people believe that economic growth is an objectively desirable outcome; but must it always be? I do not know exactly how I feel about it, but I feel that it doesn't seem like it should be the given that others seem to believe that it is.
> Either consumption is encouraged via inflation or investment is encouraged
That's not true except in an economy already operating at maximum capacity. The argument for a depreciating currency is that it encourages people to spend or invest it, while if you have an appreciating currency, people just hold onto the bank account numbers instead of generating any economic transactions or activity.
Mind you, there are counterarguments and other problems you get from a depreciating currency, but that's the argument.
Why can't investment and consumption be encouraged? The more money that is invested into companies leads to more salaries being paid, which leads to more consumption. That is the basic theory at least. The details of course can be debated such as 'trickle down economics.'
Anyone offering you salary in US dollars instead of a share of the product is implying that the dollar is a better store of the value you provided them with than the actual thing you produced.
No, it implies that US dollars are a better means of transferring value for time, because they're for example, highly liquid and fungible.
Properties that they posses at least in part because of the fact that currency is not a good long-term value storage proposition, and so they are not hoarded.
Are you suggesting that goods that retain value are intrinsically illiquid? Certainly, liquidity is not important for investment targets, but I don't think that relationship necessarily goes the other way.
Yes, currency is used (where available) for transfer of value because it is highly liquid, but I would not say that liquidity alone disqualifies a potential good from consideration as value storage. Quite to the contrary. And since currency circulates rather than being reformed as tissue paper at the end of every transfer, it effectively stores a constant amount of value until such a time as it is retired.
You are using these words but putting them together in an order I don't understand. Liquidity isn't important for investments? "Quite the contrary" that liquidity doesn't "disqualify" a good as a store of value? Are you saying suitability as a store of value varies inversely with liquidity? Do you park your money in antiques and artwork? Currency "stores a constant amount of value"? It doesn't inflate and deflate?
Okay. I'm a poor communicator, so let's see if I can explain those better.
No, liquidity isn't important for investments. Liquidity is important for trade, and investment is not trade. It's perfectly acceptable for the transfer of long-term investments to take minutes, days, even months.
msbarnett suggested that currency is liquid partly because it cannot store value. I asserted that value stores do not need to be liquid, but it's a nice property for them to have. This is not strictly contrary to non-storing implying liquidity, so that was poor wording.
By currency storing a constant amount of value, I was referring to the fact that the money base is a concrete amount. It comes into existence in exchange for some value, and represents a debt equal to that value. Money is, in very real terms, a store of that predetermined value (convolved with the plausibility of collecting that debt), same as any debt marker.
