Economy and interest rates · updated October 21, 2026
What is deflation and why can it be dangerous
Deflation means prices fall, on average, from one year to the next: inflation turns negative. It sounds like good news for shoppers, but long deflation slows the economy, because people and companies put off spending.
How it works
Deflation starts when annual inflation drops below zero. The cause matters: a price drop from cheaper technology or a tax cut is temporary. Deflation from weak demand is more dangerous: companies sell less, cut wages and jobs, and people spend even less. Debts also get heavier, because the amount stays the same while money is worth more.
Worked example
The shopping basket cost $2,000 last year. Today it costs $1,960.
Your money buys 2% more. A $100,000 loan is still $100,000, though, so measured against prices it gets heavier.
Worth knowing
Japan had long stretches of falling prices, from the 1990s into the 2010s, with an economy that grew very slowly. The euro area briefly had negative inflation in 2015 and 2020, mostly from falling energy prices: short episodes, without a deflation spiral.
When deflation can fool you
Not every price drop is deflation: TVs have been getting cheaper for years without the economy having a problem. Disinflation is something else: prices keep rising, just more slowly.
Related terms
Questions about deflation
Is deflation good or bad?
In the short run, lower prices help shoppers. Long deflation driven by weak demand pushes down wages, profits and jobs, which is why central banks try to avoid it.
What does the central bank do when deflation appears?
It cuts interest rates, sometimes to zero or below, and may buy bonds (quantitative easing) to put more money into the economy.
These explanations are for information only. They are not a recommendation to buy or sell.
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