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The problem with deflation is nominal rigidities, i.e. sticky nominal wages or the prideful worker effect. Hence you'll need to fire the workers with wage > pro

The problem with deflation is nominal rigidities, i.e. sticky nominal wages or the prideful worker effect. Hence you'll need to fire the workers with wage > productivity, and those workers will refuse to accept new employment since new offers will have lower nominal wages than their previous job. Contra mainstream academic economics, sticky wages are not actually the main reason deflation causes unemployment during recessions. A sharp, unexpected deflation causes unemployment because of the non-neutrality of money. When deflation occurs, people first stop buying durable goods like cars or new homes or architectural blueprints. The reason workers get fired is because there is simply nothing for them to produce, because they are not worth being employed at even zero dollars. Many workers are quite willing to pay cuts in hard times, but get fired anyway because there is a glut of inventory and lack of buyers, so they are not worth employing at any price. You'll absurd that in a deflationary recessionary it's the workers in industries where spending is easy to cut that get hit the hardest. Also, is also when wages are deflating or balance sheets are deflating that this is a problem. If nominal wages are steady, but the prices of goods are gradually decreasing due to technology driven productivity increases, then there will be no general ill effect on unemployment.

yummyfajitas 12y ago
Why would a sharp, unexpected deflation cause people to stop buying durable goods? Concretely: One day, the price of everything has dropped 10%. After that day, things return to normal. Why would I not buy a new laptop? I'd feel bad if I bought one before the drop, but that's a different matter. This is also quite unrelated to the article which discusses consistent and expected low deflation rates. Many workers are quite willing to pay cuts in hard times, but get fired anyway because there is a glut of inventory and lack of buyers, so they are not worth employing at any price. This is clearly not true. During the entire recession, I was happy to pay people $5.15 or even $7.25/hour to clean my house. Yet maids cost far more than that. In any case, your claim that workers are fired because they have nothing to produce is the ZMP (Zero Marginal Productivity) theory. This falls into PSST/Austrian/Structuralist theories and is quite outside the purview of monetary economics. If a worker has zero real productivity, they will be unemployed regardless of monetary conditions.
- YZF 12y ago
  But deflation and inflation don't work like that. It's not a sudden drop or a sudden rise after which we magically reset. It's a process. Another way of saying that is that what matters is not the price right now or the price yesterday but the price expectations and the feedback loop. There's lot of questions to ask about your $5.15 sample there. Were there maids out of work? What would have been the cost for those maids to go and clean your house? What's their alternative? In truly tough economical times pretty much any job at any salary was filled. We should be happy we weren't there. As to why people lose their jobs in a deflationary environment I guess it's probably not one single reason but if the economy is doing poorly companies will adjust by reducing their expenses. Whether a single person is laid off because he has nothing to do or 10% of the workforce is laid off because sales are down 10% is pretty much the same thing, no? The point though is that job loss is a more likely outcome then salary reduction, at least I think so, not unlike a recession during an inflationary environment...
  - yummyfajitas 12y ago
    But deflation and inflation don't work like that. It's not a sudden drop or a sudden rise after which we magically reset. It's a process. I'm only responding to bokonist's hypothetical, which is also not what the article is about (slow and steady deflation). There's lot of questions to ask about your $5.15 sample there. Were there maids out of work? There were lots of unemployed people during the recession who could have cleaned houses. I don't know why you think someone previously employed as an HR exec for $100k is incapable of cleaning houses at minimum wage. The purpose of inflation is that in your hypothetical where a company needs to reduce employee costs by 10%, the company can sneakily hold wages fixed and allow the wages to inflate away. This gets around the prideful worker reactions to having their nominal wage cut.
- bokonist 12y ago
  I mean a sharp, unexpected deflation as it actually happens in the real world. In the real world, deflation starts with either a collapsing debt or asset bubble. Bank runs wipe out deposits, a housing bubble bursts, the stock market crashes, etc. Suddenly people realize they are not as rich as they thought they were. A university endowment realizes it has just fallen by 20%. So everyone cuts spending. The easiest thing to cut is stuff like buying cars or designing new buildings or new construction projects. So when the endowments fell, two-thirds of the architects in Boston got laid off, because the construction projects all stalled and there was no work for them to do. Autoworkers got laid off because people held off on buying cars. Etc. etc.

yummyfajitas 12y ago

Why would a sharp, unexpected deflation cause people to stop buying durable goods? Concretely: One day, the price of everything has dropped 10%. After that day, things return to normal. Why would I not buy a new laptop? I'd feel bad if I bought one before the drop, but that's a different matter. This is also quite unrelated to the article which discusses consistent and expected low deflation rates. Many workers are quite willing to pay cuts in hard times, but get fired anyway because there is a glut of inventory and lack of buyers, so they are not worth employing at any price. This is clearly not true. During the entire recession, I was happy to pay people $5.15 or even $7.25/hour to clean my house. Yet maids cost far more than that. In any case, your claim that workers are fired because they have nothing to produce is the ZMP (Zero Marginal Productivity) theory. This falls into PSST/Austrian/Structuralist theories and is quite outside the purview of monetary economics. If a worker has zero real productivity, they will be unemployed regardless of monetary conditions.

YZF 12y ago
But deflation and inflation don't work like that. It's not a sudden drop or a sudden rise after which we magically reset. It's a process. Another way of saying that is that what matters is not the price right now or the price yesterday but the price expectations and the feedback loop. There's lot of questions to ask about your $5.15 sample there. Were there maids out of work? What would have been the cost for those maids to go and clean your house? What's their alternative? In truly tough economical times pretty much any job at any salary was filled. We should be happy we weren't there. As to why people lose their jobs in a deflationary environment I guess it's probably not one single reason but if the economy is doing poorly companies will adjust by reducing their expenses. Whether a single person is laid off because he has nothing to do or 10% of the workforce is laid off because sales are down 10% is pretty much the same thing, no? The point though is that job loss is a more likely outcome then salary reduction, at least I think so, not unlike a recession during an inflationary environment...
- yummyfajitas 12y ago
  But deflation and inflation don't work like that. It's not a sudden drop or a sudden rise after which we magically reset. It's a process. I'm only responding to bokonist's hypothetical, which is also not what the article is about (slow and steady deflation). There's lot of questions to ask about your $5.15 sample there. Were there maids out of work? There were lots of unemployed people during the recession who could have cleaned houses. I don't know why you think someone previously employed as an HR exec for $100k is incapable of cleaning houses at minimum wage. The purpose of inflation is that in your hypothetical where a company needs to reduce employee costs by 10%, the company can sneakily hold wages fixed and allow the wages to inflate away. This gets around the prideful worker reactions to having their nominal wage cut.
bokonist 12y ago
I mean a sharp, unexpected deflation as it actually happens in the real world. In the real world, deflation starts with either a collapsing debt or asset bubble. Bank runs wipe out deposits, a housing bubble bursts, the stock market crashes, etc. Suddenly people realize they are not as rich as they thought they were. A university endowment realizes it has just fallen by 20%. So everyone cuts spending. The easiest thing to cut is stuff like buying cars or designing new buildings or new construction projects. So when the endowments fell, two-thirds of the architects in Boston got laid off, because the construction projects all stalled and there was no work for them to do. Autoworkers got laid off because people held off on buying cars. Etc. etc.