This paper discusses deflation, an issue arousing increasingly concern. The paper first defines the meaning of deflation, making it clear that the continued price decrease is the only indicate for deflation to avert the interference of the effects concurrent with deflation on its definition. The more important reason underlying this definition is that, as far as the conclusions of this paper are concerned, there is no long-term relationship between the two concurrent effects and deflation itself.
The late 1990s have witnessed deflation of various degree around the globe. At the same time, many countries suffered from rising unemployment rates and staggering economic growth, while the United States have maintained a healthy development of low inflation, low unemployment rate and high economic growth rate. This paper analyzes in details the various situations.
The paper first establishes a dynamic Aggregate Demand and Aggregate Supply model to serve as the basis for further analysis. While constructing this model, importance is attached to the factors behind the problems, such as currency stability, interest rate effects, expectation effects and etc.. this is followed by the detailed analysis of the sequence of deflation and the surface and significant reasons, and the theoretical explanation of its likely effects.
The reasons of deflation come from not only Aggregate Demand but also Aggregate Supply. There are not only quantitative surface reasons, but also underlying ones resulted from mechanism and other factors. Despite the positive relations in the short term (three, four years), deflation and unemployment rate have no systematic relations in the long run. Its relation with economic grow rate is even more indeterminate, as the factors determining the fluctuation of economic growth rate include not only resource utilization rate, but also the productivity and quantity changes of resources. Assuming the latter two factors are kept constant, in the short term, its relation with economic growth rate and that with unemployment rate are the two sides of the same coin. Taking into consideration the changes of the latter two factors, the combined effects of many factors changes render the relation between deflation and economic growth rate indeterminate. This paper emphasizes the self-enhancing mechanism of deflation. The formation and enhancement of deflation expectation have important effects on deflation itself and its concurrent effects. The WP=3end of the theory part focuses on the analysis of the theoretical base for macro policy option and the policy suggestion of Paul Krugman.
The theory part analyzes in general the reasons and effects of deflation. This paper compares the United States and Japan to further illustrate the theoretical conclusion and provides reference of the experiences of other countries for the policy options of China. The United States enjoy low inflation, high economic growth rate and low unemployment rate. The major reason underlying is that technical innovation pushes forward the development of high-tech industries represented by IT industry, pulls investment demand increase and employment growth. At the same time the high productivity of high-tech industries pushes up the productivity of economic development, causing the changes in the long-term factors of economic development, which, combined with changes in short-term factors, leads to the high economic development rate and low unemployment rate in the United States. The technical and management advancement and the decrease of import price shift the Aggregate Supply Curve downward, preventing the occurrence of high inflation.
The situation in Japan is not optimistic. The Japanese economy suffers from deflation, high unemployment and negative economic growth. The reasons behind this are complicated. The negative economic growth is partly caused by the low birth rate and the seniority of population. The decrease in consumption and consumption inclination, inappropriate austere policies and the delayed industria