I noticed at tweet a few nights ago from Duncan Weldon. It went like this:"Some fretting about UK deflation. Genuine question: in the absence of wage falls how do falling energy/food costs make debt less repayable?"
This is a perfectly good question. After all, the only plausible reason anyone can give for being anti-flat prices or mild deflation is that it is bad for those in debt*. But what does that actually mean?
If prices are flat and your wages are flat, the value of your debt hasn't changed. Nothing is better or worse than it was. You borrowed the money. You have to pay the money back. So it doesn't make debt less repayable in theory.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
What it does do is something rather different. It destroys the rationale a lot of us use when we borrow money in the first place. I've made this point before, but anyone over, say 45, might want to look back to the purchase of their first home.
Did you prudently borrow just as much as you thought you could pay back on a monthly basis while having a little left over to live a happy life? Did you hell. What you actually did was to borrow as much money as was conceivably possible in the happy knowledge that inflation would erode the real value of that debt and make it more or less go away.
A £2,000-a-month mortgage payment isn't going to break the bank after 20years of inflation averaging 6% (the real cost will be down to £500-£600).
So, assuming your wages have kept up with inflation (if you took out your mortgage in your 20s or 30s, they should have wiped the floor with inflation), you are on easy street. Borrow big and inflation will make you rich.
This is something that has long been a universally acknowledged truth in the UK. But what happens if there is no inflation? You can't assume the same fair wind.
And while that doesn't make your debt less repayable in real terms, it makes it much, much more of a long-term burden. And once you understand that (and it doesn't take long for a deflationary mindset to set in ask the Japanese) it also makes you less likely to borrow big again.
That's why deflation matters to a deeply indebted society in a way that it just doesn't to a solvent one. It's all about psychology.
* If you haven't any debt to worry about, falling prices should just raise your standard of living. Hooray.
-
Beating inflation takes more luck than skill – but are we about to get lucky?Opinion The US Federal Reserve managed to beat inflation in the 1980s. But much of that was down to pure luck. Thankfully, says Merryn Somerset Webb, the Bank of England may be about to get lucky.
-
Rishi Sunak can’t fix all our problems – so why try?Opinion Rishi Sunak’s Spring Statement is an attempt to plaster over problems the chancellor can’t fix. So should he even bother trying, asks Merryn Somerset Webb?
-
Young people are becoming a scarce resource – we should value them more highlyOpinion In the last two years adults have been bizarrely unkind to children and young people. That doesn’t bode well for the future, says Merryn Somerset Webb.
-
Ask for a pay rise – everyone else isOpinion As inflation bites and the labour market remains tight, many of the nation's employees are asking for a pay rise. Merryn Somerset Webb explains why you should do that too.
-
Why central banks should stick to controlling inflationOpinion The world’s central bankers are stepping out of their traditional roles and becoming much more political. That’s a mistake, says Merryn Somerset Webb.
-
How St Ives became St Tropez as the recovery drives prices sky highOpinion Merryn Somerset Webb finds herself at the epicentre of Britain’s V-shaped recovery as pent-up demand flows straight into Cornwall’s restaurants and beaches.
-
The real problem of Universal Basic Income (UBI)Merryn's Blog April employment numbers showed 75 per cent fewer people in the US returned to employment compared to expectations. Merryn Somerset-Webb explains how excessive government support is causing a shortage of labour.
-
Why an ageing population is not necessarily the disaster many people think it isOpinion We’ve got used to the idea that an ageing population is a bad thing. But that’s not necessarily true, says Merryn Somerset Webb.
