Deflation is very Difficult to Reverse

The economists over at Yahoo seem, as usual, to have grasped the significance of the situation. The times they are a changin', in every sense.

Despite a recent slew of sluggish data, the economy should pick up as the Iraq war fallout fades, Federal Reserve chairman Alan Greenspan and his fellow policymakers said. But an emerging menace, deflation, loomed. Over the next few quarters, opportunities and risks for sustainable economic growth were "roughly equal," Federal Reserve chairman Alan Greenspan and his colleagues said in a statement. "In contrast, over the same period, the probability of an unwelcome substantial fall in inflation, though minor, exceeds that of a pickup in inflation from its already low level," they said. It was the first time the committee had issued such a clear warning about the downward pressure on prices, although they carefully avoided using the word deflation. Deflation, or falling prices, deals a double blow to economies by pressuring people to postpone buying until prices fall further, and by raising real interest rates. It is also very difficult to reverse.


Because of the deflation spectre, the balance of risks overall was "weighted towards weakness over the foreseeable future", the bank said, in a signal it was ready to cut rates if needed. "Evidently the Federal Reserve believes that the economic rebound wont be strong enough to allay deflation concerns," said Wells Fargo Banks chief economist Sung Won Sohn. "The probability of another cut in the interest rate on June 24 has increased significantly." Greenspan was sweating over the threat of deflation after concluding that Japan had waited too long to act before plunging into a four-year deflationary spiral, Sohn said. "The Federal Reserve is determined not to repeat the same mistake," he said. Soaring energy costs in March led to a 3.0 percent rise in consumer prices compared to the same period a year earlier. But when volatile energy and food prices were excluded, core prices rose just 1.7 percent.
Source: Yahoo News
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