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

Recently I started buying bitcoins and I’ve heard a lot of talks about 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 a method to trade value and probably the most practical way to take action is to link it with money. In past times it worked quite well as the money that was issued was associated with gold. So every central bank needed enough gold to cover back all of the money it issued. However, previously century this changed and gold is not what is giving value to money but promises. Since you can guess it’s very easy to abuse to such power and certainly the major central banks aren’t renouncing to do so. For this reason they’re printing money, so quite simply they’re “creating wealth” out of thin air without really having it. This process not only 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, this is called inflation. But what’s behind the amount of money printing? Why are central banks doing so? Well the answer they would offer you is that by de-valuing their currency they are helping the exports.

In fairness, inside our global economy that is true. However, that is not the only real reason. By issuing fresh money we are able to afford to pay back the debts we’d, put simply we make new debts to pay the old ones. But that is not only it, by de-valuing our currencies we have been de-facto de-valuing our debts. That’s why our countries love inflation. In inflationary environments it’s easier to grow because debts are cheap. But what are the consequences of most this? It’s hard to store wealth. So if you keep carefully the money (you worked hard to obtain) in your bank account you are actually losing wealth because your cash is de-valuing pretty quickly.

Because each central bank has an inflation target at around 2% we can well say that keeping money costs most of us at least 2% each year. This discourages savers and spur consumes. This is how our economies are working, predicated on inflation and debts.

What about deflation? Well this is exactly the opposite of inflation in fact it is the biggest nightmare for the central banks, let’s see why. Basically, we have deflation when overall the prices of goods fall. This would be caused by a rise of value of money. First of all, it would hurt spending as consumers will be incentivised to save lots of money because their value will increase overtime. However merchants will be under constant pressure. They will have to sell their goods quick otherwise they will lose money because the price they will charge for his or her services will drop as time passes. But if there is something we learned in these years is that central banks and governments 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 exactly what will function as consequences of deflation.

So to summarize, inflation is growth friendly but is founded on debt. Which means Bitcoin Revolution will pay our debts. Deflation however makes growth harder nonetheless it implies that future generations won’t have much debt to cover (in such context it might be possible to afford slow growth).

OK so how all of this fits with bitcoins?

Well, bitcoins are made to be an alternative for the money and to be both a store of value and a mean for trading goods. They are limited in number and we will never have a lot more than 21 million bitcoins around. Therefore they are designed to be deflationary. We now 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 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 need by issuing shares of these 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, just for clarity, I must say that portion of the costs of borrowing capital will be reduced under bitcoins because the fees will be extremely low and there won’t be intermediaries between transactions (banks rip people off, both borrowers and lenders). This would buffer some of the negative sides of deflation. Nevertheless, bitcoins will face many problems unfortunately, as governments still need fiat money to pay back the huge debts that we inherited from the past generations.