What Is Inflation and Deflation and a Speculation About the Bitcoin Future

Recently I started investing in bitcoins and I’ve heard a great deal of discusses inflation and deflation but not lots of people actually know and consider what inflation and deflation are. But let’s focus on inflation.

We always needed a way to trade value and the most practical way to take action would be to link it with money. Before 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 pay back all the money it issued. However, during the past century this changed and gold is not what’s giving value to money but promises. As you can guess it’s very an easy task to abuse to such power and certainly the major central banks are not renouncing to do so. For this reason they are printing money, so in other words they are “creating wealth” out of nothing without really having it. This technique not merely exposes us to risks of economic collapse nonetheless it results also with the de-valuation of money. Therefore, because money is worth less, whoever is selling something has to increase the price of goods to reflect their real value, that is called inflation. But what’s behind the money printing? Why are central banks doing so? Well the answer they might offer you is that by de-valuing their currency they are helping the exports.

In fairness, inside our global economy this is true. However, that’s not the only reason. By issuing fresh money we are able to afford to pay back the debts we had, in other words 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’s why our countries love inflation. In inflationary environments it’s better to grow because debts are cheap. But which are the consequences of all this? It’s hard to store wealth. If you keep carefully 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 comes with 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 and it is the biggest nightmare for our central banks, let’s see why. Basically, we’ve deflation when overall the costs of goods fall. This might be caused by an increase of value of money. First of all, it could hurt spending as consumers will be incentivised to save money because their value increase overtime. Alternatively merchants will be under constant pressure. They’ll have to sell their goods quick otherwise they will lose money as the price they will charge for their services will drop as time passes. But when 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 probably the most is DEBT!!. In a deflationary environment debt can be a real burden as it will only get bigger over time. Because our economies derive from debt you can imagine what will function as consequences of deflation.

So to conclude, inflation is growth friendly but is based on debt. Which means future generations can pay our debts. Deflation on the other hand makes growth harder but it implies that future generations won’t have much debt to cover (in such context it might be possible to cover slow growth).

OK so how all of this fits with bitcoins?

Well, bitcoins are made to be an alternative for the money also to be both a store of value and a mean for trading goods. They’re limited in number and we will never have a lot more than 21 million bitcoins around. Therefore they’re designed to be deflationary. Now we have all seen what the consequences of deflation are. However, in a bitcoin-based future it would still be possible for businesses to thrive. The ideal solution will be to switch from the debt-based economy to a share-based economy. In fact, because contracting debts in bitcoins will be very expensive business can still obtain the capital they want by issuing shares of their company. This could be an interesting alternative as it will offer many investment opportunities and the wealth generated will be distributed more evenly among people. However, simply for clarity, I have to say that part of the costs of borrowing capital will undoubtedly be reduced under bitcoins as the fees will be extremely low and there will not be intermediaries between transactions (banks rip people off, both borrowers and lenders). This might buffer a number of the negative sides of deflation. Nevertheless, Bitcoin Era Site will face many problems unfortunately, as governments still need fiat money to pay back the huge debts that we inherited from days gone by generations.