DEFLATION

Deflation is just the opposite of inflation. It is essentially a

matter of falling prices. Deflation, according to Prof. Paul
Einzig, "is a state of disequilibrium in which a contraction
of purchasing power tends to cause, or is the effect of, a
declining of the price level". Deflation is the sate of falling
prices when the output of work by productive agents
increases relatively to money income. Deflation arises
when the total expenditure of the community is not equal to
the value of output at existing prices. Consequently, the
value of money goes up, and prices fall. In short, deflation
is a condition of falling prices, accompanied by a
decreasing level of employment, output and income.

We can understand deflation under these

Points-
1. Deflation means falling prices in general which
adversely affect the marginal efficiency of
capital. Consequently, investment volume tends
to contract causing unemployment to increase.
2. Deflation paves the way for depression. In a
depressionary phase, economic activity contracts,
scale of production is curtailed, output shrinks no
new investment if forthcoming; on the contrary,
investment is curtailed.
3. By reducing aggregate income, it also
pauperizes every group in society. It inflicts on
society the harsh punishment of mass
unemployment. Volume of employment falls,
money income of the community diminishes and,
therefore, even though people's purchasing power
is increased due to falling prices, they are unable
to buy goods in the required quantity. Thus,
aggregate demand falls, profit falls producers
suffer heavy losses and curtail investment and
output further, leading to a further decline in
employment and income.
 THE EFFECT OF DEFLATION ON
VALUE OF MONEY

Deflation is, however, the natural condition of hard

currency economies when the rate of increase in the supply
of money is not maintained at a rate commensurate to
positive population (and general economic) growth. When
this happens, the available amount of hard currency per
person falls, in effect making money scarcer; and
consequently, the value of each unit of currency increases.
Because of this the purchasing power of the consumer
increases. The late 19th century provides an example of
sustained deflation combined with economic development
under these conditions.
Deflation also occurs when improvements
in production efficiency lowers the overall price of goods.
Improvements in production efficiency generally happen
because economic producers of goods and services are
motivated by a promise of increased profit margins,
resulting from the production improvements that they
make. But despite their profit motive, competition in the
marketplace often prompts those producers to apply at least
some portion of these cost savings into reducing the asking
price for their goods. When this happens, consumers pay
less for those goods; and consequently deflation has
occurred, since purchasing power has increased.
While an increase in the purchasing power of one's money
sounds beneficial, it can actually cause hardship when the
majority of one's net worth is held in illiquid assets such as
homes, land, and other forms of private property. It also
amplifies the sting of debt, since-- after some period of
significant deflation-- the payments one is making in the
service of a debt represent a larger amount of purchasing
power than they did when the debt was first incurred.
Consequently, deflation can be thought of as a phantom
amplification of a loan's interest rate. (But, conversely,
inflation may be thought of as a regressive, across the
board general tax.)
If there is deflation the value of money
increases and exports become more profitable.