Deflation appears when there is more supply than demand. There are high risks that deflation can transform into the vicious cycle of deflationary spiral. When there are expectations that prices will decrease, people tend to consume less and save more, which in turn decreases aggregate demand and lowers prices even further.
When there is deflation companies can't sell their products and are forced to lower the prices. If companies are struggling to sell their existing inventory, they don't have any interest in borrowing money and making new investments and expanding their production capacity, which in turn results in negative economic growth rate.
In deflationary spiral 1) consumer demand is slugish and savings rate is high because people expect further decrease in prices 2) investment rate is low because companies can't sell their products and have no any motivation to expand their production capacity 3) banks don't want to give new loans and prefer to hold cash as it will have more purchasing power tomorrow due to falling prices.
Slugish consumer demand leading to falling prices and less sales leading to low investment rate and with credit crunch when banks are reluctant to give new loans can result in negative economic growth rate and even recession or depression. Governments fight deflation by fiscal stimulus financed by new borrowings, which in turn increases government debt level.
China's economic model is very similar to Japan's model in the period 1950-1990.
Japan had 1) very high savings rate leading to very high investment rate leading to very high GDP growth rate (10% a year) 2) Japanese economy grew by increasing exports and investments into real estate and infrastructure 3) By 1980s Japan had a bubble in its real estate sector 4) By 1990s Japan entered deflationary spiral after decrease in prices in the real estate sector and this process was complemented by the aging of its population (older people consume less and this lowers aggregate demand).
China had 1) very high savings rate leading to very high investment rate leading to very high GDP growth rate (12% a year) 2) Chinese economy grew by increasing exports and investments into real estate and infrastructure 3) by 2020 China had a huge bubble in its real estate sector 4) In 2023 we have deflation in China and demographic situation is not good
Japan fought its deflation by fiscal stimulus - government borrowed huge amount of money and started building unnecessary roads, useless railways and bridges into nowhere for the purpose of creating jobs and demand for its construction industry.
China has different plan to fight deflation - Belt and Road Initiative. Instead of raising own government debt and building useless infrastructure for the purpose of stimulating own economy, China will give cheap loans to countries of Asia and Africa so they could hire Chinese companies with Chinese workers and buy Chinese steel and cement and build their infrastructure.
Here are some of the goals of the Belt and Road Initiative:
1) Stimulate domestic construction industry in times of deflation through creating jobs for Chinese companies and workers
2) Increase China's influence in foreign countries through debt-trap diplomacy
3) Soft Power of China
4) Marshall Plan for Asia and Africa - help these countries to develop, so they could become richer and capable of buying more Chinese products
5) Develop China-centric overland trade network
Also China can fight deflation by further devaluing its currency. It will make Chinese products cheaper and create demand for Chinese products in foreign markets and help increase aggregate demand. Also devaluation of yuan will make imports more expensive adding to inflation and Chinese people will buy cheaper China-made goods instead of imports and this can boost domestic demand for Chinese products.
Also they can have fiscal stimulus.
So in times of deflation there is no hope for 1) boosting private consumption, because China is ageing and old people tend to consume less and save more especially in times of deflation 2) increasing investments, because business doesn't make investments in times of deflation and households don't invest in real estate because they expect real estate prices to decrease.
But China can have 1) fiscal stimulus 2) devalue yuan to boost exports and import-substitute 3) One Belt One Road as a stimulus.
When there is deflation companies can't sell their products and are forced to lower the prices. If companies are struggling to sell their existing inventory, they don't have any interest in borrowing money and making new investments and expanding their production capacity, which in turn results in negative economic growth rate.
In deflationary spiral 1) consumer demand is slugish and savings rate is high because people expect further decrease in prices 2) investment rate is low because companies can't sell their products and have no any motivation to expand their production capacity 3) banks don't want to give new loans and prefer to hold cash as it will have more purchasing power tomorrow due to falling prices.
Slugish consumer demand leading to falling prices and less sales leading to low investment rate and with credit crunch when banks are reluctant to give new loans can result in negative economic growth rate and even recession or depression. Governments fight deflation by fiscal stimulus financed by new borrowings, which in turn increases government debt level.
China's economic model is very similar to Japan's model in the period 1950-1990.
Japan had 1) very high savings rate leading to very high investment rate leading to very high GDP growth rate (10% a year) 2) Japanese economy grew by increasing exports and investments into real estate and infrastructure 3) By 1980s Japan had a bubble in its real estate sector 4) By 1990s Japan entered deflationary spiral after decrease in prices in the real estate sector and this process was complemented by the aging of its population (older people consume less and this lowers aggregate demand).
China had 1) very high savings rate leading to very high investment rate leading to very high GDP growth rate (12% a year) 2) Chinese economy grew by increasing exports and investments into real estate and infrastructure 3) by 2020 China had a huge bubble in its real estate sector 4) In 2023 we have deflation in China and demographic situation is not good
Japan fought its deflation by fiscal stimulus - government borrowed huge amount of money and started building unnecessary roads, useless railways and bridges into nowhere for the purpose of creating jobs and demand for its construction industry.
China has different plan to fight deflation - Belt and Road Initiative. Instead of raising own government debt and building useless infrastructure for the purpose of stimulating own economy, China will give cheap loans to countries of Asia and Africa so they could hire Chinese companies with Chinese workers and buy Chinese steel and cement and build their infrastructure.
Here are some of the goals of the Belt and Road Initiative:
1) Stimulate domestic construction industry in times of deflation through creating jobs for Chinese companies and workers
2) Increase China's influence in foreign countries through debt-trap diplomacy
3) Soft Power of China
4) Marshall Plan for Asia and Africa - help these countries to develop, so they could become richer and capable of buying more Chinese products
5) Develop China-centric overland trade network
Also China can fight deflation by further devaluing its currency. It will make Chinese products cheaper and create demand for Chinese products in foreign markets and help increase aggregate demand. Also devaluation of yuan will make imports more expensive adding to inflation and Chinese people will buy cheaper China-made goods instead of imports and this can boost domestic demand for Chinese products.
Also they can have fiscal stimulus.
So in times of deflation there is no hope for 1) boosting private consumption, because China is ageing and old people tend to consume less and save more especially in times of deflation 2) increasing investments, because business doesn't make investments in times of deflation and households don't invest in real estate because they expect real estate prices to decrease.
But China can have 1) fiscal stimulus 2) devalue yuan to boost exports and import-substitute 3) One Belt One Road as a stimulus.
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