To boldly go....

Some economists are talking about us going into a period of negative inflation, - a situation where year on year prices fall. We came close to this in the early 1960s but we did not quite reach this situation, which is one we have never previously known.

Currently the RPI is close to zero, although the government's preferred measure, CPI is still well above. The former has fallen more because it includes housing costs such as mortgage rates.

Will negative equity happen for a period?
It could fail to do this if sterling depreciates against other currencies, and this could happen if, as a final throw of the interest rate weapon the Bank of England reduces its base rate to zero. It could also do this if the government's desperate last throw occurs, - quantitative easing or flooding the economy with money, is excessive. In fact some economists are concerned about the control of inflation in the near future with all the liquidity in the system and shortages and bottle necks may occur in any upward movement in the economy.

We could have both results - negative inflation followed by positive inflation again which will require interest rates to rise.

Does negative inflation matter?
Lenders may feel that they are losing with very low interest rates, but with falling prices "the pound in their pocket" will command more goods, the debt will be repaid in money which is worth more. The same would apply to savers and depositors.

Borrowers must repay loans in money which is worth more, so the burden of repayment will be greater.

Business could be attracted by lower interest rates and might be enticed into spending, but they too might realise that any debt repayment would be more of a burden.


There are three connected unknowns: (apart from the fact that prices do not all fall at the same rate.)

Firstly, would borrowers, savers and businesses be sufficiently aware of the change in the value of money, and how they are affected? They could be largely oblivious to what economists consider.

Secondly, how long would the period of negative inflation last? If it were brief in duration and its incidence slight then all the above would be perhaps academic.

Thirdly, what will be the expectations of decision makers? If prices fall will they wait further before making new investments in plant and machinery needed for the recovery. Consumers also might wait, and so delay the recovery.
Could savers judge that without good interest they would be better keeping the money in a biscuit tin somewhere?