The Confusion Over Inflation and Deflation Explained

Created Saturday, 16 October 2010 14:43

RECON
Real Estate Center Online News
October 15, 2010
Copyright 2010. All rights reserved.
Material herein is published according to the fair-use doctrine of U.S. copyright laws related to non-profit, educational institutions. Items attributed to sources other than the Real Estate Center at Texas A&M University should not be reprinted without permission of the original source.

AN INFLATION-DEFLATION PRIMER

 

COLLEGE STATION (Real Estate Center) — If you haven’t heard about them, you haven’t been reading, listening or watching the news. Few Americans can define them, much less explain their differences. Mark Dotzour and Gerald Klassen help clear the confusion over inflation and deflation in a four-page white paper released earlier this week.

Which is worse, inflation or deflation?

“Deflation is much worse because it leads to falling profits and asset values,” said Dotzour, chief economist for the Real Estate Center at Texas A&M University. “When profits and asset values fall, people go bankrupt. However, deflation is beneficial for those on fixed incomes with no debt because their money buys more. Deflation results in lower interest rates.”

Is real estate a good investment during deflation?

“The answer depends on how much equity you have,” said Klassen, the Center’s research analyst. “During deflation, commercial rents will fall, and some tenants will go out of business because of falling profits. The most important thing when buying real estate during deflation is to avoid the need to go back to the bank to get relief on the mortgage payment.”

Dotzour and Klassen address other fundamental questions in their new paper. What is the best investment strategy during deflation? How does deflation affect mortgage rates? What is the best way for the United States to end deflation and get the economy going again? What could cause this strategy to fail?

The complete paper is available on the Center’s website.

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