What causes deflation?

Deflation occurs because of a decrease in demand or an oversupply of goods.

When production costs become lower, so do the prices of goods and services. Various factors help to lower production costs, such as a less-skilled workforce, lower international costs for production or transport of such goods or services, improved technologies, or lowering import prices. When costs are lower, production might increase.

When demands decrease, prices may decrease, thus causing deflation. However, while this might initially appear positive for the economy, it's not. Deflation because of lower demand might predict an oncoming recession. When businesses sell goods at a lower cost because of deflation, they make less revenue. With less revenue, they employ fewer people and lower wages. When people earn less, they spend less. This creates an economic cycle that negatively influences the economy.