Asklemmy

Inflation occurs when the value of goods increase. This can mainly be caused by two things: An increase in consumption or an increase of production costs, which causes the vendor to increase prices in order to maintain profits.

Deflation would occur when the opposite happens, aka when the value of goods decrease. This can be caused by things such as new technological improvements (old hardware has become cheaper, because new hardware has been released and the older hardware is no longer state-of-the-art), a reduction in consumption or a reduction in production costs. Perhaps I've missed a few cases, but these are the main things I can currently think of.

Anyway, while deflation is generally useful for consumers (they have to pay less), it's not very good for borrowers. Let's take a mortgage for a house, for example. You want to buy a house for €200k and have a mortgage of €200k that will cover the house. If something bad happens to you financially (for example, you lose your job), you may end up in a situation where you'll no longer be able to pay off your mortgage. Shit happens right? Usually, the bank would take control of your house, sell your house for €200k and use the revenue from the house to pay off your mortgage.

However, if deflation has occurred and your house is no longer worth €200k, but €150k, you still have €50k to pay off to your bank, after the bank has sold your house. Simultaneously, you're unemployed, so how are you going to do that? If you declare bankruptcy, you will no longer have to pay off your debts and the bank has lost €50k.

Besides this, deflation can also be a symptom of something worse happening, such as high unemployment rates and a decrease in consumption, for example. When more people get unemployed, people will spend less, which reduces demand, which leads to a decrease of prices.

The two largest central banks in the world, the Federal Reserve and the European Central Bank, have explicit mandates for keeping inflation under control.

The European Central Bank is tasked with

the achievement of a high degree of price stability; this will be apparent from a rate of inflation.

The Federal Reserve has the "Dual Mandate" of price stability and achieving the maximum sustainable employment.

Price stability is about controlling inflation. It's complicated, but high inflation both affects the direct price of goods and services and expectations of their future prices. So, in a high inflation environment, what costs $10 now may costs $12-$14 in the future.

We saw this after COVID, when supply chain issues became a huge problem and it was difficult to say how much goods and services would cost. Multinational corporations bragged about their ability to "price-take", or raise prices in response to supply chain delays and have consumers continue to pay it.

This demonstrates, at least in part, why our buying decreases far more often than it increases: large companies can "pass through" inflationary costs to consumers. You need soap to clean yourself and food to eat? Well, Proctor and Gamble and Tyson Foods bet they can raise prices on soap and chicken and that you'll pay it. And you do. Because what choice do you have?

In the U.S. specifically, there is the flip side of inflation: the maximum sustainable employment rate. If too many people are employed, the labor markets get hot. You know what that means? Mo' money for you! Mo' money for me! Mo' everybody!

You know what that also means? Demand for goods and services is going up. Supply is going to lag behind. It's like a bunch of isolated people with jobs wanting a lot of stuff during and after a pandemic that decreased the supply of goods and services. This causes...inflation. All those people are going to be willing to pay more than the next person (up to a point) for the same Nordictrack Treadmill.

This also demonstrates another reason companies can pass through inflationary costs: under a hot labor market, consumers are willing to pay higher prices.

So, there are at least two reasons why consumer buying power decreases more often than it increases. Conditions are such that either

1. Consumers must pay more because what choice do they have?
2. Consumer want to pay more because the value a good or service higher than the next person up to a point.

In either case the response of the Federal Reserve will be to raise the price of money, making both capital and labor more expensive. The Fed's recent increases to inflation make you, as an employee, and the things you want as a consumer, more expensive.

In contrast, the primary way consumer buying power increases is if they make more money. (That happens in a hot labor market...but then the consumer gives the surplus away if they're not careful). However, that raise must be greater than the rate of inflation. If you get a 1% raise and inflation is 2%, well, your buying power decreased, even though you'll still see a higher number on your paycheck. If you get a 3% raise and inflation is 2%, your buying power increased.

The challenge for businesses is handling inflationary increases in capital and labor. It's easy for capital: you need stuff to produce stuff. And it's likely you can pass through those costs to consumers.

In contrast, labor has all sort of demands like...water/bathroom breaks, mandated over time, safety regulations, etc. And workers don't see a decrease in their chances of being maimed at work as an increase in value from their employer. If a company is going to invest in its employees, given a certain dollar amount, workers would generally prefer to see that money go into their pockets rather than be invested in stricter adherence to safety regulations or more breaks while at work. But companies can't often make that choice, the law changed and they must adhere to safety regulations. So, no raise for you!

Now, it's certainly more complicated than that. Businesses have a lot of financial demands, of which employee compensation is a small, though often significant, piece of the pie. It's harder to give raises than it might seem. Unless your CEO makes one hundred thousand dollars a second, as some do, then wage increases may be difficult to do.