JCL Blog

Deflation in the Technology Industry

In today's NY Times Paul Krugman says that the core rate of inflation is 0.6% -- the lowest number ever recorded.  Those of us in technology realize that current inflation measures are inadequate because they do not measure Moore's law.  We all know that the technology of tomorrow will be better and cost less -- and that is definitely deflation.

Economists fear inflation, but they fear deflation more.  Inflation can be addressed by raising interest rates.  There is no known cure for deflation because by the time we get there, we will have flooded the market with cash and it clearly will not have worked.  In addition, deflation incents people to do things that cause more deflation -- where inflation is self correcting.  After all, if a buyer cannot afford the inflated price, less will be purchased, and if less is purchased, the price should come down.  Falling prices is the same as falling inflation -- and there is the self correction.  

The two devastating effects of deflation are the increased relative cost of debt, and the underlying incentive to put off purchases until the prices go down more.  Both of which reduce demand for products or services.  Less demand is addressed with lower prices, and lower prices only make the trend accelerate in the wrong direction.  Deflation breeds more deflation.

Some years ago we had all of the computing power we needed.  We used to buy upgraded machines because we needed more computing power.  Features and functionality, often formed into the "killer app", drove sales.  It has been a long time since a new version of office brought us productivity enhancing new features.  

Realizing that their customers had no compelling reason to buy, the makers of the technology started eating other industries.  First was advertising.  Google is a technology company, but all of its revenues come at the expense of the advertising industry.  Google offers better advertising for 1/10th the cost.  Replacing analog dollars with digital dimes is clearly deflationary.

Next the technology industry is going to eat the labor market.  With all of the computing capacity moving to centralized data centers, also known as "the cloud", companies are going to need much fewer technology people.  It is already possible to run a 50 person business without any technology people on staff.  Lowering the demand for workers is absolutely deflationary.

After that the technology industry is going to eat the energy market.  A very large percentage of the power used to run today's computers is wasted.  Not only are the power supplies to PCs over sized by design -- and therefore consuming much more power than necessary, but many PCs just sit there using the electricity for no other reason that to create heat all night long.  The centralization of computing will address this too.  The result will be less need for electricity.  Less need for electricity is deflationary.

So I don't know if all of the QE going on will lead to out of control inflation anytime soon.  I do know that the technology industry is going to be contributing to deflation for as far as I can see into the future.




Growing or Shrinking

I think it is a miracle that our economy grows at all.  I can't say that I have an intricate understanding of the way we calculate GDP or inflation.  But here are the things from my life that are pulling the deflationary lever: 

Computers:  In 1988 I bought at 286 machine for $5,000 -- now I buy computers for less than $1,000.

Cell Phones:  In 1990 my cell phone bill was $600 per month.  It is still $600 per month but I have 11 phones and a handful of data devices on it.

Housing:  I do pay more for housing because my family is bigger and we have upgraded our house.  But I don't see any reason to expand any further and at 30 years old, my house is a long way from wearing out.  On a larger scale, we have about 15% vacancy in housing units (empty houses, rental units, and other unoccupied inventory) I would say it will be a while before we need more housing as a nation.

Cars:  We just bought a car for about the same price as the last new car I bought in 2002.  And this one is nicer.

Media:  I pay less for my phone, internet, cable TV, music, and movies than in the recent past.

Travel:  We seem to get great deals on airfare and hotels whenever we decide to travel.  We may be traveling more that we used too -- so this could be a net increase.

Healthcare:  Our family spending on healthcare -- even with insurance -- goes up significantly every year.

Education:  My kids are now in private school because I could not risk a public education.  Up a bunch here too.

In the end, more items are going down or staying flat than items going up.  The ones going up, healthcare and education, are going up a lot.  So my personal net GDP change is up.  This "growth" is pretty much a demographic thing -- my kids are growing up and requiring more medical attention and more education spending.  Without those two things, my individual GDP change would be down.