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Related to deflations: Deflationary spiral, Negative Inflation
The rupture of a breast implant, which is abrupt, obvious and harmless with saline, and slower, less obvious and fibrosing (scarring) with silicone
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One implication of this more nuanced view is that since deflation is not always harmful, policymakers need not always assume the worst and automatically ease monetary policy at the first sign of deflationary pressures.
The idea that there is a relationship between aggregate supply-driven deflation and macroeconomic stability begins with the observation that shocks to productivity or factor input growth imply changes in per unit costs of production and, given competitive pressures, changes in the relationship between input and output prices.
Here, monetary authorities offset the benign deflation depicted earlier by shifting the AD curve from [AD.
The interest rate response to positive aggregate supply shocks also plays an important role in the relationship between the benign form of deflation and macroeconomic stability.
This understanding of the relationship between aggregate supply-driven deflation and macroeconomic stability suggests that, given its short-run real effects, monetary policy should not err on the side of inflation, but should allow the price level to fall in response to innovations in productivity or factor input growth.
They were concerned, for the reasons discussed above, that in their attempt to offset benign deflation monetary authorities were generating excessive borrowing, an unsustainable boom in asset prices, and an unsound stimulus to global aggregate demand.
Since this housing boom has now turned into a housing bust that has created what the IMF (2008b: 4) is calling the "largest financial shock since the Great Depression" to hit global financial markets, those observers who expressed concern back in 2004 based on the more nuanced view of deflation now appear to be almost prophetic.
l1] We estimate that the wealth shock caused by n 1 percent price deflation leads to a 0.
We now are in a position to take stock of the net effect on output of the price deflation that occurred during the Great Depression.
There is a further difficulty with the argument that price deflation was the source of the economic decline.
We calculate the total decline in output that would be associated with a deflation that was expected to last forever and then annualize that decline over the number of years it would take to reduce the capital stock to its new, lower level, assuming that net investment cannot be zero.
Deflation can cause output to decline, but to what extent?