Recently I started investing in bitcoins and I’ve heard a lot of discusses inflation and deflation however, not lots of people actually know and think about what inflation and deflation are. But let’s focus on inflation.
We always needed ways to trade value and probably the most practical way to take action is to link it with money. Previously it worked quite well as the money that has been issued was associated with gold. So every central bank had to have enough gold to cover back all the money it issued. However, in past times century this changed and gold is not what is giving value to money but promises. As possible guess it’s very easy to abuse to such power and certainly the major central banks are not renouncing to do so. That is why they are printing money, so quite simply they’re “creating wealth” out of nothing without really having it. This process not only exposes us to risks of economic collapse but it results also with the de-valuation of money. Therefore, because money will probably be worth less, whoever is selling something has to increase the price of goods to reflect their real value, this is called inflation. But what’s behind the amount of money printing? Why are central banks doing so? Well the answer they might offer you is that by de-valuing their currency they’re helping the exports.
In fairness, inside our global economy this is true. However, that is not the only reason. By issuing fresh money we are able to afford to cover back the debts we had, basically we make new debts to pay the old ones. But that’s not only it, by de-valuing our currencies we are de-facto de-valuing our debts. That is why our countries love inflation. In inflationary environments it’s simpler to grow because debts are cheap. But which are the consequences of all this? It’s hard to store wealth. If you keep the money (you worked hard to obtain) in your money you are actually losing wealth because your money is de-valuing pretty quickly.
Because each central bank has an inflation target at around 2% we are able to well say that keeping money costs all of us at least 2% each year. This discourages savers and spur consumes. This is one way our economies are working, based on inflation and debts.
What about deflation? Well this is exactly the opposite of inflation in fact it is the biggest nightmare for our central banks, let’s see why. Basically, we’ve deflation when overall the prices of goods fall. This would be caused by an increase of value of money. For starters, it could hurt spending as consumers will undoubtedly be incentivised to save lots of money because their value increase overtime. Alternatively merchants will undoubtedly be under constant pressure. They’ll have to sell their goods quick otherwise they’ll lose money as the price they will charge because of their services will drop over time. But if there is something we learned in these years is that central banks and governments usually do not care much about consumers or merchants, what they care the most is DEBT!!. In a deflationary environment debt can be a real burden since it will only get bigger as time passes. Because our economies are based on debt you can imagine exactly what will be the consequences of deflation.
So to summarize, inflation is growth friendly but is founded on debt. Therefore the future generations will pay our debts. Deflation however makes growth harder nonetheless it implies that future generations won’t have much debt to pay (in such context it will be possible to afford slow growth).
OK so how all of this fits with bitcoins?
Well, bitcoins are designed to be an alternative for money also to be both a store of value and a mean for trading goods. They are limited in number and we’ll never have more than 21 million bitcoins around. Therefore they are designed to be deflationary. Bitcoin Era Site have all seen what the consequences of deflation are. However, in a bitcoin-based future it would still be easy for businesses to thrive. The way to go will be to switch from a debt-based economy to a share-based economy. Actually, because contracting debts in bitcoins will be very expensive business can still obtain the capital they want by issuing shares of these company. This could be an interesting alternative as it will offer you many investment opportunities and the wealth generated will be distributed more evenly among people. However, simply for clarity, I must say that part of the costs of borrowing capital will be reduced under bitcoins as the fees would be extremely low and there won’t be intermediaries between transactions (banks rip people off, both borrowers and lenders). This would buffer a number of the negative sides of deflation. Nevertheless, bitcoins will face many problems unfortunately, as governments still need fiat money to cover back the huge debts that we inherited from days gone by generations.