Explaining Non-Existent Deflation Through Apple Products

In a recent Wall Street Journal feature on the alleged threat of deflation, authors Sudeep Reddy and Dana Mattioli proclaimed that "Deflation is a destructive force, in part because it causes consumers to stop spending as they anticipate prices to fall even further going forward." Allowing for the certain truth that deflation is destructive, what the authors presume to be deflation quite simply isn't.

The answer for why is very basic. If prices of certain goods are falling, far from a deflationary event as they presume, the aforementioned decline in the cost of certain products merely expands the range of other goods available to the consumer, thus driving up their cost. If the price of a product drops, unless there's a monetary event whereby the currency in which it's priced rises substantially in value, there's no deflationary event to speak of.

And with the dollar presently testing all-time lows (the euro is not a dollar benchmark, and its greater weakness relative to the dollar simply masks the greenback's continued decline), the very notion of the U.S. economy potentially facing the possibility of deflation would be to redefine, or better, mis-define the word altogether. Much as inflation is always and everywhere a monetary event, so is deflation, and with the dollar impressively weak (see the price of gold, oil and any other commodity), we needn't worry about deflation. Inflation is our problem regardless of what government measures of pricing suggest.

Considering the savings aspect of Reddy and Mattioli's presumption, that too is a misread. Indeed, all capital formation and wealth is the result of saving, as are the companies we work for. If there's no saving, there's also no investment and we don't have jobs. Savers are economic benefactors, not economy killers.

Concerning prices more broadly, and the authors' errant definition of deflation, if their version is to be believed, then the U.S. economy has been suffering a crushing deflationary episode for most of its modern existence. That's clearly not the case, but as evidenced by the sharp decline in the prices of computers, cellphone calling plans and the Global Positioning Systems (GPS) that increasingly help us to get from Point A to Point B, we're used to falling prices.

Importantly, the falling prices of the above-mentioned products over the years certainly did not deter us from initially buying the less sophisticated, yet more pricey versions of all three. Does anyone remember how relatively slow, and expensive were the computers we suffered in the ‘80s and ‘90s? The size of the old mobile phones we chatted on in concert with weak signals and roaming charges? How about the first GPS systems so compromised in their accuracy that they frequently had us going down the wrong streets?

Still, we purchased all three even though as sentient humans all, we were and are well aware that nosebleed prices are largely an historical notion. When the price of anything is high, that's a certain signal that entrepreneurs will soon enough enhance production techniques in order to make what was once dear, cheap. But consume we do, even though we know the prices of much that we buy will eventually decline. Falling prices are decidedly not destructive despite the views of the vast majority of media members and the economists and central bankers they enable.

All of which brings us to the serial U.S. innovator, Apple Computer. It released its first iPhone in January of 2007, and while my memory may be hazy, its cost was in the $500 range. Despite the high price, and the historical certainty that the price of the phone would eventually drop, consumers purchased the original and very expensive phone in a frenzied way.

Not long after, Apple reduced the iPhone's price, and just this week it released the latest version for $199 despite it being a much more advanced phone than the '07 model. Contrary to the popular belief that falling prices are destructive to producers, as evidenced by the iPhone's downward price trajectory, it's the producers themselves who go to great lengths to make cheap what was once expensive.

There's nothing deflationary about their actions; instead they eagerly seek productivity enhancements as a way of beating back competition as much as possible. Nosebleed prices put huge targets on the backs of producers, so they do everything they can to constantly reduce the costs of the goods they sell. Yet consumers still rush to buy their products, quite opposite the supposition within the economic commentariat that falling prices drive consumers to the sidelines.

Of course there's logic to reducing prices that goes beyond keeping competition to a minimum. Indeed, as explained earlier, falling prices, rather than deflationary episodes, merely expand the range of goods we can buy. Apple Computer understands what most economists and business writers do not.

Simply put, if they can reduce the cost of the iPhone, this allows them to introduce other, more expensive goods to a consuming public that can't get enough of their products. Sure enough, Apple released the iPad a little ways back, and the cheapest, introductory version costs $499. Basic history in and out of Apple tells us that soon enough the iPad will cost less than its launch price, but consumers, though fully aware of this, are buying every iPad in sight.

So great is the demand for iPads, in order to buy them used on Amazon consumers are being forced to pay anywhere from $50 to a few hundred dollars more than the retail price. Once again, falling prices expand the range of goods we can buy, and often lead to higher prices for other things we want. There's no change in the price level when the prices of certain goods fall.

Back to true deflation, it doesn't result from the natural productivity-driven decline in prices, and another symptom of it is decidedly not a lack of credit. More realistically, during periods of actual deflation producers do everything they can to avoid accessing credit for fear that they'll have to pay back dollars far more expensive than the ones they borrowed.

Deflation, in short, is a rise in the value of money such that the general price level declines. We're experiencing nothing of the sort right now, but with productivity enhancements continuing to drive down the nominal prices of myriad goods, readers should expect continued hand wringing over a "deflationary" problem that is decidedly non-existent.