What Is a Deflationary Spiral and Does It Affect Bitcoin?

What Is a Deflationary Spiral and Does It Affect Bitcoin?

As an investor, it can sometimes be easy to panic when you hear negative words. Especially, if you don’t fully understand the context they are being used in.

One such word that can cause a panic is ‘spiral’. A spiral is never a good thing, right? Assets don’t spiral up, they spiral down, so it’s easy to see why someone might have cause for concern if they see the term ‘deflationary spiral’ in the news.

Therefore, let’s take a look at what this term means and if it’s something you need to worry about as a Bitcoin investor.

What Is a Deflationary Spiral?

Usually, deflationary spirals happen during periods of economic downturn such as during a recession or depression. These are the times when demand for investment goes down, consumption dramatically reduces, and economic output slows.

Added to this, people sell investments off because they need the money, and producers are forced to liquidate goods that people can no longer justify buying.

Both individuals and businesses start keeping hold of liquid assets, saving as much money as possible rather than spending. Due to so many people doing the same thing, this further causes problems to the economic crisis already in play.

The deflationary spiral is a reaction to all of this. It’s a downward price reaction that ends up with people having lower wages, lower production of goods, and less demand overall.

Price levels decline alongside lowering wage levels and thus we end up with deflation, the opposite of inflation.

What Is the Solution?

Central banks around the world have policies in places that are enacted in times of economic crises. During a deflation, for example, a country’s bank will lower interest rates, often to get as close to zero as possible.

Lowering the interest rate is there to encourage people to spend their liquid assets rather than save them thereby, “naturally” increasing spending, demand, and consumption.

Since prices are also lower, spending money seems like a better idea than just leaving it in the bank. This also encourages more people to borrow money and take out mortgages which is another way to stimulate an economy.

Unfortunately, these spirals, whether they be deflation or inflation, are not simple to fix. And while there are policies in place, an economy can end up in a vicious cycle that is hard to break free from.

Because of this, recessions and other economic problems can go on for many years before they start to balance out or become resolved.

How Does It Affect Bitcoin?

So, in the case of a deflationary spiral, how does it affect an investment that is Bitcoin?

Well, the good news is that it doesn’t. Because Bitcoin is so fundamentally different from ordinary currency, it cannot be affected by all of the same issues. A deflationary spiral is one of them.

Learning about economics and finances is always a great idea if you’re an investor in any kind of asset or commodity. The more you know, the better choices you can make when investing. It’s like having more of the picture with everything you learn which can lead to more successful outcomes.

So, while a deflationary spiral may not affect Bitcoin in the way it does other currencies, it’s still important to understand what it means and what it does affect.

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