Hyperdeflation

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What is hyperdeflation?

Hyperdeflation is an extremely large and relatively rapid level of deflation in an economy. Hyperdeflation occurs when the purchasing power of money increases drastically in a relatively short time. This increase translates into more pronounced debts, as the real value of goods and services increases and the value of money decreases.

If hyperdeflation were to happen, it would have serious economic consequences because people would give up buying today when they know it will be much cheaper to buy it tomorrow, or the next day, or the next day – and therefore the expenses and investments will stop.

Hyperdeflation is quite rare and can be contrasted with the still rare but more common periods of hyperinflation, where prices rise rapidly as the purchasing power of money drops sharply.

Key points to remember

  • Hyperdeflation refers to extremely large declines in the general prices of goods in an economy – or, as a result, to significant increases in the purchasing power of a currency.
  • Hyperdeflation is very rare, the only example perhaps being the rapid and meteoric rise in Bitcoin prices in a short period of time.
  • Hyperinflation is the opposite theoretical concept and is rare, but there have been several cases where commodity prices have risen rapidly while the value of money has plummeted.

Understanding hyperdeflation

Hyperdeflation is, more or less, a theoretical term, and there is no exact measure of the difference between it and deflation. However, hyperdeflation, like deflation, can lead to a deflationary spiral in which a deflationary environment leads to lower output, wages and demand, and therefore lower price levels. This scenario creates a positive feedback loop that continues until an outside force (the government, for example) intervenes.

The United States experienced severe periods of deflation just before and just after the Civil War and the onset of the Great Depression. Some economists believe that the 2007-2009 financial crisis caused a period of deflation in the United States. Japan has entered a period of severe deflation which has continued since the 1990s.

Deflationary spiral

While hyperdeflation is rare, deflation in itself can lead to pernicious negative feedback loops. A deflationary spiral is a reaction to lower prices to an economic crisis resulting in lower production, lower wages, lower demand and lower prices. These events often occur during a period of severe economic crisis, such as the Great Depression.

Deflation occurs when general price levels fall, unlike inflation which occurs when general price levels rise. In the event of deflation, central banks and monetary authorities can adopt expansionary monetary policies to stimulate demand and economic growth.

If monetary policy efforts fail, however, due to a larger-than-expected weakness in the economy or because target interest rates are already zero or close to zero, a deflationary spiral can occur even with a expansionary monetary policy in place. Such a spiral amounts to a vicious circle, where a chain of events reinforces an initial problem.

Example of hyperdeflation

Unlike hyperinflation, there are few documented examples of hyperdeflation in the real world. Recently, however, the world has seen the emergence of cryptocurrency: a decentralized digital currency that works via a blockchain or a public transaction register.

Bitcoin, created in 2009, was the first digital currency and remains the best known. Many observers have called its recent volatility an unprecedented example of hyper-deflation. Some cryptocurrency experts and economists qualify its price rise as a bubble, noting that the currency has long-term prospects. However, they also point to the possibility of deflation.

By design, the number of new coins decreases each year, but the demand for Bitcoin is increasing. This dynamic could lead the digital economy to enter a deflationary period. Since no centralized banking system or equivalent of the Federal Reserve supervises the currency, no intervention policy will be implemented.

Furthermore, Bitcoin cannot be deposited and retrieved by a wealthy passerby; if someone loses their personal key, they lose the money and the money is effectively withdrawn from circulation. In addition, there is a high level of wealth concentration among Bitcoin holders, which means that there are a relatively small number of users who can sell or, more importantly in this scenario, do not sell.

With the increase in value, there is more incentive to buy and hoard Bitcoin, which only increases the price and further decreases the supply. This could theoretically lead to hyper-deflation in the real world.

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