Yes, the deflationary spiral is real

The deflationary cascade, a core feature of debt-backed currency, it is a positive feedback loop; self-reinforcing, destabilizing, and hard to arrest without external intervention. Below is its structure it in strict causal steps:

Initial Credit Contraction

• Lenders pull back (credit collapse).
• New loans slow (lending collapse).
• Money supply begins shrinking (debt-money extinguished faster than created).

Deflationary Pressure

• With fewer currency units circulating, the purchasing power of each unit rises.
• Prices fall, not from productivity gains but from monetary contraction.
• Nominal revenues and wages decline, even as real burden per unit of debt rises.

Rising Strain on Borrowers

• Debts are fixed in nominal terms, but incomes are falling in nominal terms.
• Servicing existing obligations becomes harder - cash flow stress increases.
• Defaults begin to rise.

Risk Repricing and Interest Rate Pressure

• Defaults trigger reassessment of risk.
• Lenders demand higher risk premia (interest rates rise in real terms, even if policy rates are low).
• Tighter credit standards further reduce the pool of eligible borrowers.

Accelerated Credit Destruction

• Collateral values fall with asset prices, reducing borrowing capacity.
• Forced liquidations push prices down further.
• Loan losses impair bank capital, leading to additional credit withdrawal.
• Cycle reinforces itself: trust evaporates, currency supply contracts, risk premiums rise.

The Feedback Loop

Deflation strengthens the currency → fixed debts harder to service → defaults rise → lending risk higher → credit tighter → money supply shrinks → deflation strengthens further.

This loop is not self-correcting,.it amplifies until either:

1. Systemic collapse (defaults cascade until the credit system resets at a lower level), or
2. External intervention (central banks inject reserves, governments socialize losses, or debt jubilees cancel obligations).

Structural Note

This loop exists only in credit-backed fiat systems where money is debt.

In hard-cap systems, debt burdens still rise in deflationary conditions, but money supply does not implode - only distribution shifts. The feedback loop is truncated.

This is why Irving Fisher (1933) called it the “debt-deflation theory of great depressions”: the burden of debt rises as the unit of account strengthens, making collapse self-reinforcing.