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Possible Consequences of Deflation. Consumers may choose to delay consumption if expect prices to fall further in the future. Therefore AD falls, leading to further recessionary pressures- and leads to lower prices and so the cycle continues.
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Possible Consequences of Deflation • Consumers may choose to delay consumption if expect prices to fall further in the future. Therefore AD falls, leading to further recessionary pressures- and leads to lower prices and so the cycle continues • Real value of household, company and government debt rises when the price level is falling. In money terms your debt may remain the same- but in real terms it is bigger.As wages and incomes may have fallen, you may also not have the ability to finance the debt repaymants • Real interest rates will be high- another factor driving spending lower. If deflation is –3% and ir= 1%, then in real terms the rate of interest is 4%, which is quite high.
Company profit margins come under pressure - leading to higher unemployment as firms seek to reduce costs • Falling asset prices hit personal sector financial wealth and confidence leading to further declines in aggregate demand. Eg if house prices and shares fall in value- then you are going to feel poorer. You’ll save more and spend less-again increasing recessionary pressures, within the economy
