Inflation leads to technological and economic stagnation. Plants do not modernize, the financial aspects of the firm's operations are emphasized, the industrial and operational aspects de-emphasized and neglected. Economies are seized by the pathological economic condition known as 'stagflation' - zero or negative growth, coupled with inflation. A sense of urgency and crisis sets in and clears the path towards the next, second phase. In an effort to overcome the pernicious effects of inflation, governments liberalize, deregulate and open their economies to competition.
Firms innovate and streamline.
Efficiency, productivity and competitiveness are the buzzwords of this phase. The same wages generate more products. This is technological deflation. It is beneficial to the economy in that it frees economic resources and encourages their efficient allocation. Real incomes rise and generate increased demand and production.