Debt Deflation Definition

Debt deflation describes the process of a debt’s collateral asset losing value more rapidly than the debt principal is being serviced. For example, if a bank loans $300,000 on a home mortgage and-for whatever reason-the home depreciates faster than the principal decreases, the mortgage is experiencing debt deflation. This can often happen with mortgages after a mortgage bubble pops or when a locale experiences a notable economic downturn. The mortgage scenario is bad for the bank and bad for the owner. The owner owes more on the home than the home is worth. If the owner decides to simply walk away from the home (e.g., "voluntary" foreclosure) then the bank is left with an asset that won’t satisfy the mortgage.