Deflation

Keynesians, monetarists, and other non-Austrian economists all support inflationary policies and view deflation as a very dangerous phenomenon, as it purportedly can cause a self-reinforcing spiral of lower wages, prices, and economic activity.  However, this is a totally unfounded concern, and such a deflationary cycle simply would not occur in a free market -- it is only the attempts made to curb deflation that could possibly cause such an ill effect.

The first thing to understand is why deflation might occur in the first place -- while there may be more causes, I see three obvious ways in which deflation might occur:

• Increased Productivity: I would call this the most prevalent of all production-related market phenomena -- under a system of free markets, increased competition and efficiency would cause the general price of any particular good to go down over time.  Barring a rise in other factors, producers competing to provide the best quality good at the lowest possible price will produce a long-term trend towards lower prices of a good.  Taken at a market-wide scale, this phenomenon should produce a natural decline in price levels over time.
• Market-clearing: When a good has been over-produced, that is to say, the demand for a good at a particular price level no longer supports consumption of that good in a broad way, the price of the good will need to change.  This is the market-clearing effect of the free market -- producers will be forced to lower the price of a good, even to unprofitable levels if need be, in order to sell it.  This behavior becomes widespread during a recessionary period of the business cycle, and would lead to short-term deflation.  This deflation should be short-lived: once the market has cleared, the deflationary effect will be gone.
• Increased preference for saving vs. consumption: Sometimes market conditions may change such that consumers generally change their appetite for consumption in favor of savings.  The effect of this could also be deflationary, as suddenly the existing price level for many goods no longer supports their purchase, or amongst capitalists they choose not to invest now in additional production, but rather save or "hoard" their capital goods.  The market serves to coordinate this effect as well through the freely-fluctuating interest rate -- the prevailing rate at which market participants will borrow and loan money.  This is also short-lived and naturally corrected by the market: as consumers and capitalists save more money vs. consuming or investing, the rate of interest will fall in response to this change until it again becomes more advantageous to consume and invest vs. saving.

So looking at those potential sources of deflation, it seems clear that deflation has a legitimate function in the market, and a free market will correct that trend in all cases regardless of it's source.  However, it is entirely possible to prolong those deflationary pressures and indeed trigger a dangerous self-reinforcing deflationary cycle, but ONLY through government on non-market interruption.  For instance, non-Austrian economists always are in favor of policies that prevent markets from clearing, prevent prices from generally falling due to increased productivity, and prevent the interest rate from freely fluctuating to reflect consumer and investor preferences in saving vs. consumption and investment.  In the case of Japan, monetary policy intentionally aimed at all of these things, and rather than allowing the market to quickly adjust, it has prolonged the deflationary cycle for nearly two decades.

Free Entry -- an under-recognized aspect of the Free Market

Perhaps the most overlooked element of a free market -- amongst free trade, free exchange, etc. -- is the concept of free entry into the market.  Probably the single largest hurdle to the general acceptance of free markets is the problem of monopoly.  The fear is that, in a free market, the inevitable outcome of market activities would be either a single firm or a collection of firms conspiring together (a cartel) dominating the market.  What is chiefly overlooked here is that a truly free market also allows for free entry into the market, which is the single most important counterbalance in the system.  The fact that this is overlooked speaks directly to the degree to which free entry is not permitted in most current and historical markets -- in fact it is almost inconceivable that such a force would come into play in a free market system.

The simple fact is this: in order for a firm or a cartel to even attempt to dominate a market, they necessarily introduce bads alongside their goods or else their goods simply become bads.  To understand this, let's examine the nature of monopoly itself: under a monopolistic system, there is a tendency for the quantity and or quality of goods to decrease while the price of those goods increases.  Right?  That is the entire fear of monopoly in a nutshell.  So they are essentially producing less goods.  What is the bad?  Through their monopolistic behavior, they are preventing other producers from competing with them.  Well the solution here is obvious -- if a monopolist or would-be monopolist is producing fewer goods at a higher price, then it should be quite simple for another producer -- if even on a small or localized scale -- to produce better quality goods at a lower price.  Would not then, almost immediately, consumers turn to this new producer for those goods? If you dispute that, then why will thousands of people line up outside Best Buy on Black Friday to save a few bucks on a television set?  Consumers aren't dumb -- they are constantly looking for the best deal and taking their business there.

So the only way, truly, for a monopoly to succeed is to prevent free entry into their market.  It would be impossible to do so economically for a monopolistic entity to do so -- they would have to buy up every would-be competitor, and constantly forcing their business partners to take anti-consumeristic behavior in order to economically prevent free entry.  This would crush them very quickly, as the costs would be too great.  So the only mechanism for truly preventing free entry into a system is ultimately violence: competitors or would be competitors must ultimately be coerced (through violence or the threat thereof) to not compete.  But in a free market system, where property rights are considered absolute, such behavior would likewise be extraordinarily costly, as a monopolist or would-be monopolist would either lose their own security provider, be forced to pay exorbitant rates by their security provider, AND would be the target of every other security provider in the entire world.

Monopoly is only possible in the absence of free entry into a market.  Free entry can only be suppressed through a violation of property rights.  A free market respects property rights.  Therefore, a monopoly is impossible in a free market.