Hello everyone
I would like to ask about savings during deflation
Lets assume there is 100% gold standard so that money supply is constant.if the GDP grows it means that prices must go down, for example -3% per year. some people may try to save some money in order to consume more in future. but the funny thing is that they don't have to borrow money to somebody to achive their goal. they can just keep savings in safe place, it can be attractive way for some people because borrowing money is allways risky and prices are constantly falling down.
it means that savings supply will decrease and intrest rates goes higher. there will be smaller capital acumulation comparing to when the prices are constant.what do you think about it, is this scenario is possible?
In a free market banking system, if there are lots of savings interest rates should also be low (if the supply of money is high, the price goes down). In any deflationary period there should theoretically be a high savings rate, therefore there should be low interest rates for borrowing.
Additionally, the nature of deflation means that banks may agree to lend at zero or even negative interest rates. At first that sounds counter-intuitive until you think about it. If deflation rates are (-3%), then that means that $100 today will have the purchasing power of $250 in thirty years. Therefore, the bank may agree to a 0 to 2% interest rate since just the nature of you paying back your original loan amount "makes them money" due to its stronger purchasing power.
The one thing you need to factor in is that wages will also be subject to this same deflationary pressure, so although savings will be high as a percentage, the nominal amount being saved will fall each year as the average workers salary continues to fall.
Of course the best thing about a prolonged deflationary period will be it would clear the market of the useless consumption and redirect resources where they are most needed. In a deflationary period you would only want to spend money on things that gave you 'clear' benefits - so $3 cups of coffee would probably disappear, but 50 mpg cars would probably appear.
Technology itself would probably also continue to boom - afterall it is already a deflationary industry. My first computer in 1985 cost $2500, my most recent from Walmart was $250. So even though its been hugely deflationary, society still has bought lots of computers along the way. Its just that technology provides clear benefits 'today', which is why we are willing to buy even though we know next years model will be cheaper.
freetx, I'll borrow from you at 0% intererest rates during price inflation or deflation - any time at all really :)
Balcerek,
I reckon you're right. Under a 100% gold standard there would be falling prices. This would absolutely mean that in order to save money you could just collect some gold coins in a safe place. There would be no need to loan the money to anyone in order to earn interest. i.e. no need to try to keep up with inflation.
If people are risk adverse they may indeed save this way. This will reduce the amount of savings available to borrowers. As you say this would encourage the interest rate to rise. However, as the interest rate rises this will encourage some of the savers to take their stash from a safe place and loan it at the higher rates.
I wonder what the interest rate would be?
Why must prices down when the GDP rises?
Productivity increases is supposed to cause falling prices. So I wonder if productivity increases would aways lead to an increase in the GDP. There's certainly government spending in there which could cause troubles. Also in the GDP is gross investment - perhaps this investment hasn't yet led to an increase in productivity?
It would be useful to hear from an economist on this thread :)
Steven Shaw: freetx, I'll borrow from you at 0% intererest rates during price inflation or deflation - any time at all really :)
What are current mortgages going for? 4-5%?
Now if you are in a deflationary period where prices are falling by 3% per year, this translates that market rates for 30-yr mortgages would be around 1-2% per year.
Balcerek: Hello everyone I would like to ask about savings during deflation Lets assume there is 100% gold standard so that money supply is constant.if the GDP grows it means that prices must go down, for example -3% per year. some people may try to save some money in order to consume more in future. but the funny thing is that they don't have to borrow money to somebody to achive their goal. they can just keep savings in safe place, it can be attractive way for some people because borrowing money is allways risky and prices are constantly falling down. it means that savings supply will decrease and intrest rates goes higher. there will be smaller capital acumulation comparing to when the prices are constant.what do you think about it, is this scenario is possible?
It's certainly possible that people would just keep money savings in a safe place, but that doesn't mean they aren't saving in the non-monetary sense of the term.
What happens when they decide to set aside that money? It means they are choosing not to consume now - this frees up goods, resources, capital and labor whether or not they lend the money to someone else. Either way, society gets the benefits of real savings (ie choosing not to consume today so that the person can consume more later) - the only real difference is that the gains the saver could have gotten by lending out the money are now spread across all producers, as prices drop from the fallen demand.
That's why, from an Austrian perspective, there is nothing wrong with money hoarding (or hoarding of any good for slightly different reasons) - it frees goods, resources, capital and labor for more roundabout production processes whether the saver hoards money or lends it out to a producer.
You are just describing the hoarding myth in a different form. People, who will hold on their money for speculative means, will simply accelerate the transition period of the price adjustment. If people expected money to be worth 3% more by next year, their speculative action of "hoarding" will cause prices to fall by 3% immediately, so now it will it be more attractive for you to lend out money at whatever the current interest rate is. Problem solved? In a free market economy, this speculative effect will be continuous and not transitional, so it will continuously be a factor in regulating against any inefficiency.
Keep also in mind that since the holding of money causes the purchasing power of the money to increase, It does not necessarily follow that this directly leads to less savings in real terms, thus, a lower interest rate. Remember, that the money is worth more due to the speculative effects of people holding on to their money, so in nominal terms, less savings and borrowing will eventually be required to meet the same level of investments. Banks will expect the fall in prices, as they expect a rise in prices today. They will also tend to adjust their interest rates according to their speculative expectation so interest rates will tend to immediatly reflect expected future results based on current activity.