Well, as you may have already guessed, deflation is the opposite of inflation. Since we said that inflation is when the money supply is increased, deflation is a decrease in the money supply.
Technically, deflation occurs whenthe inflation rate falls below 0%.
Instead of a decrease in the value of
money like inflation, in deflation
there is an increase in the value of
your money. This means you can
buy more goods with your money.
During deflation, people have an
incentive to hold on to their money because in the future their dollars will buy more. So, people just put off spending so they can get more for their
money in the future.
This is what economists call a "deflationary spiral" because people won't stimulate the economy by spending. This is our Fed Chief Ben Bernanke's biggest fear.
During inflation, people try to get rid of dollars fast because the dollars will buy less if they wait another day or week. As we have seen, the opposite is true for deflation. I talk more about this in the hyperinflation chapter.