By Peter B. Meyer – 8th of February 2012

"Deflation is a structural, and not a monetary phenomenon." Deflation occurs when prices are declining over time. This is the opposite of inflation; when inflation rate is negative, the economy is in deflation.

Causing a decline in general price levels, often caused by a reduction in the supply of money or credit. Contraction in spending, either by government, or private sector, consumers, can also cause deflation. Deflation often goes together with increasing unemployment due to the lower level of demand. Deflation punishes investments that can raise people from poverty, both personal investments, and business growth.

In our private consumer lives, we all are for deflation. In fact, we look around to find ever-lower prices. We reward businesses like LIDL, ALDI, Wal-Mart and Dell who can sell us things we want at prices lower than paid before. Their sales increase even as the prices we pay decrease.

Price deflation is the natural by-product of a productive, competitive economy. In a competitive free market, we should expect prices to come down over time, as various businesses try to find ways to get consumers to buy their products or services. Price makes a big difference.

So why is everyone so worried about deflation? Deflation can have a very dark side. It is one thing for a business to cut prices because they have figured out a way to lower costs. It is another thing for them to have to cut prices because there is too much product produced by all their competitors.

Such a "deflation" in prices results in lower profits. When this happens to a multiple and large segments of the business world across an entire country, it is called a recession, as businesses cut spending and employment.

And therein lays the concern in economic circles about deflation. No one is actually concerned when prices drop for good reasons. The concern is when prices start to fall because of too much supply and lack of demand. This typically precedes a recession.

The economy faces both the deflationary forces of the worst recession since the 1930s and the vigorous inflationary response of the Central Bankers, who have in effect cut interest rates to zero and rapidly expanded their balance sheet.

Inflation is a vague occurrence and containable, while deflation is far more destructive.

Everyone knows that stimulus leads to inflation. While it’s known that the Central Bankers undertook the most daring use of stimulus ever attempted. In fact it seems likely that soon the most severe inflation will occur ever witnessed. But it's not that simple. It's too obvious. Under these circumstances, inflation would be no surprise.

People understand the threat of inflation because it happens frequently. Practically everyone anticipates rising rates of inflation. “The adjusted monetary base of the US and EU have more than tripled in the past few year. Deficits are staggering.”

Still consumers won't consume like they're supposed to. Suddenly, it's the 'Age of Thrift.' At present 70% of the economy is consumer spending. Until that changes, the economy is hostage to consumer spending. When consumers stop consuming, the economic wheels stop turning.

The greatest trouble still is too much debt. Both in the private sector and in the public sector that at last will cause even bigger problems when eventually governments default by causing hyperinflation, which is worse than the depression originated by deflation.