Bitcoin and deflation.

Fuente

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When I started to study finance, one of the things that I had the hardest time understanding was deflation. Not so much its concept, but why it brings with it negative effects in the economy.

Deflation is the opposite of inflation and, therefore, as a phenomenon implies a generalized decline in the prices of goods and services or in the supply of a certain currency (which implies an appreciation of it).

Why is deflation negative for the economy?

Let's imagine that I have 100 pesos and I am able to buy 100 candies today. If there is inflation within a year I will be able to buy with those same 100 pesos less candy. But if there is deflation, I will be able to buy more. So, what ends up happening is that people tend not to spend, save those pesos instead of "buy candy" and lower consumption.

This is too simple an example and only illustrative, since the economic forces in practice are more complex.

Also, it is clear that the problems of money should not be measured in nominal but relative terms, and what ultimately matters is the real purchasing power (if the currency is deflationary but wages also fall in short I will be able to buy "less candies "with a month's salary that before).

Now, what I wanted to share with you this week was the following reflection.

One of the most outstanding qualities of the proponents of bitcoin is that the problem of inflation is eliminated, since the issue is defined in advance. Only 21 million bitcoins will be issued throughout history.

The issue is this: we must not forget that bitcoin is, above all, a system of decentralized payments.

In this context, if the virtual currency that serves that system is deflationary, that feature threatens consumption, putting the system itself in check.

In other words, if bitcoin increases its value constantly (if the demand of this cryptocurrency increases but its issuance remains fixed), who would be willing to spend their bitcoins to buy a good or a service?

What I want to say with all this, is that in the long term, the fixed issuance of a number of bitcoins established in advance, is a problem of opposite sign to the one that would bring an uncontrolled issue like that made by many central banks in the world.

My hypothesis in any case is that with bitcoin, or any other decentralized payment system, it may be more convenient to have a different issuance policy, which takes into account the changes in the demand of that virtual currency to adjust its issuance, instead to have a fixed number that remains unchanged over time.

This would be a way to encourage consumption and make people finally use the system for what was created, to trade goods and services without depending on intermediaries.

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