Deflation is literally
just a lowering of prices, or a general
decrease in the level of prices for
goods and services. Or another way to think
about it, since inflation is an increase in
the level of prices, you can just view it
as negative inflation. And so, let's say we're the
folks at the Bureau of Labor Statistics, and we're trying
to compute the CPI index. And in one period-- let's call
this period one over here-- we have our CPI index
for urban consumers. And that's the one
that's quoted most often. And we have this
basket of goods. And it'll have housing in it. Let me write that a
little bit neater. It'll have housing in it. It'll have transportation in it. It'll have a fuel in it. It might have some
proxy for entertainment or whatever else inside of it. And that basket of goods,
let's say in period one-- and this is a
simplification-- runs that urban consumer
on average $100. And then we go to
period two, and we look at that same
basket of goods. Maybe we're adjusting
certain things, maybe some products
have become obsolete and we have to
replace, or there has to be some adjustments
for technology. And that's all under debate,
how you should adjust them. But given that,
assuming everything else is equal, that same basket of
goods is now running at $98. And so the total cost
of goods and services for this kind of average
consumer has gone down by $2. Or we could say that
we've experienced negative 2% inflation,
which is really just another way of saying that
we have experienced deflation. Now, deflation is not
the norm, especially for growing economies,
the way that our current economic systems
runs, although it does happen. And Japan in
particular is probably the most recent, most
famous case of deflation. And the main reason
why economists really don't like deflation-- or
I should say in particular, while central bankers really
don't like deflation-- is that it makes it much
harder to control the economy or to fuel the economy
with interest rates alone, or actually just
with printing money alone. And I'll go into a
little bit more depth with that in future videos. One thing I do
want to make clear is although deflation
isn't what we normally see in the broader
economy as a whole, it does happen very frequently
in specific sectors. And the most common one is
in the technology sector, specifically hardware. We've all experienced buying
a laptop at one period-- so right now you buy the
laptop for maybe $1,000-- and then six months
later you see that exact same laptop for $500. And that's just because the
rate of technological innovation is going so fast
that they can produce the same amount of memory
and processing power for a lot cheaper now. Or for the same
amount of money you can get much more memory
and processing power, and all of the rest. And you see this with laptops
and with a big screen TVs and phones and all the rest.