Deflation is a decrease in general price levels of throughout an economy. If there is a higher supply of goods and services but there is not enough money supply to combat this, deflation can occur. Deflation is mainly caused by shifts in supply and demand. For example, cellphones have significantly dropped in price since the 1980s due to technological advances that have allowed supply to increase at a faster rate than the money supply or demand of cellphones.
Disinflation, on the other hand, shows the rate of change of inflation over time. The inflation rate is declining over time, but it remains positive. For example, if the inflation rate in the United States was 5% in January but decreases to 4% in March, it is said to be experiencing disinflation in the first quarter of the year.
Calculating Disinflation
Price levels can be examined using the consumer price index (CPI), which measures the changes in the price levels of a basket of goods and services. They can also be measured using the gross domestic product deflator, which measures the price inflation. Inflation rates can be calculated using CPI data. For example, the monthly CPI in January 1980 to January 1983 was 77.8, 87.0, 94.3 and 97.8, respectively. The inflation rate can be calculated using this formula:
(most recent CPI number – older CPI number) ÷ (older CPI number)
Using the data from above, the inflation rate from January 1980 to January 1981 was 11.83%, and from January 1981 to January 1982 it was 8.4%, showing this was a period of disinflation because there was a decrease in the inflation rates.
(For related reading, see: The Dangers of Deflation.)