Editor's note: This is the first of a two-part series on deflation.
"Another day, another dollar, That's what I'm working for today, Another day, another dollar, Sure can't buy my blues away."
—from "Another Day, Another Dollar" as performed by Alison Krauss
My high school economics teacher once explained inflation by saying, "Money tends to be worth a little less every year." Interested in finance even back then, I asked her, “Why do things have to cost more every year just because?” She apparently wasn’t in the mood to take me on a journey through economic history because the answer I received was: “That’s just the way it is and has always been.”
I memorized what would be required for the test that week and moved on. But the answer never satisfied me. As I grew older and learned more about financial history, I realized why her answer bothered me. It wasn’t true.
Moderate-to-high inflation has been a feature of the world Baby Boomers grew up with and have experienced consistently throughout our lives, but history tells us that the formative era for Boomers was somewhat exceptional. According to a recent study by the Bank of England, the United Kingdom’s version of our Federal Reserve, over the past 700 years global inflation has only averaged 1.08 percent annually.
Back to the original question. Why don’t we have inflation all the time?
Let’s look back to the late 1800s, the last prolonged period of deflation outside of the Great Depression, for clues. The latter part of the 19th century was an age of global economic growth. It was also an era of technological innovation (internal combustion engine, electrification, indoor plumbing, etc.), communications advances (telegraph) and heavy globalization with expanded international trade. And it was a period of declining prices on most goods. Plug in the words “internet” and “iPhone” and it sounds a lot like the last 30 years, right?
If left undisturbed by war or plagues, over time, the dynamic duo of capitalism and technology tend to produce an abundance of cheap goods quite efficiently. Thankfully, there haven't been any multi-national, global wars in recent decades and the international order has been relatively sanguine. Thus we’ve been able to create an age of oversupply. In other words, with very few exceptions, if a company makes a physical product, then oftentimes someone, somewhere is likely willing to make it cheaper. And those willing-to-do-it cheaper competitors are easier than ever to find thanks to the telegraph of our day, the internet.
In many ways, low inflation or deflation reflects a successful society. Inflation accompanies scarcity. Deflation denotes abundance. It’s a good problem to have. It’s also one that’s likely to stay with us.
Next week: the investing implications of living in a low inflation world.
Margaret R. McDowell, ChFC®, AIF®, author of the syndicated economic column “Arbor Outlook,” is the founder of Arbor Wealth Management, LLC, (850.608.6121 – www.arborwealth.net), a “fee-only” registered investment advisory firm located near Sandestin.