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Deflation, the Fed’s new worry

Bob Moon Jul 30, 2010
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Deflation, the Fed’s new worry

Bob Moon Jul 30, 2010
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Kai Ryssdal: The Federal Reserve has been doing its darndest to get things going again. It has flooded the financial system with money — liquidity, as we’ve been telling you. It’s lowered interest rates to encourage more spending — and that has got a lot of people worrying about whether all that cash would lead to inflation. Not only has that not happened, now there are some within the Fed saying the big worry could be just the opposite: Deflation. Not just lower prices, but lower prices over a prolonged period of time. Officially, prices aren’t just falling yet. But some experts think it’s time to come up with a plan just in case.

Here’s our senior business correspondent Bob Moon.


Bob Moon: From a consumer standpoint, deflated prices may sound like a great idea. If you want people to buy things, after all, just lower the price. But there’s a big difference between throwing a sale, and making declining prices a regular fixture.

Tom Porcelli is an economist at RBC Markets. He points to the way the Japanese economy has languished for the better part of two decades.

Tom Porcelli: People had come to expect in Japan that prices would continue to fall, and so it becomes very self-fulfilling. If you think prices are going to continue to fall, then you’ll put off purchases.

It can become a vicious cycle — especially vicious when falling prices turn into falling profits. Companies produce less and cut more jobs. But how might the Fed reverse that cycle?

Barry Bosworth is a financial policy expert at the Brookings Institution. He says the central bank may have already spent the he ammunition it might normally aim at deflation.

Barry Bosworth: In an inflation episode, it raises interest rates. In a deflation episode, it would lower interest rates. The problem is it hit zero, and it can’t really do any more than that on the interest rate.

Bosworth is evidence of the way opinion is divided over how much of a threat deflation might be. He’s doubtful that American consumers are simply holding off, waiting for better prices. He says they’re still spending where they can — just not where they can’t.

Bosworth: The housing market’s been devastated. People aren’t holding off there. They just don’t have the money to buy a house, and a lot of other people are in trouble paying for the house they have.

Bosworth says the way to get people spending again is focusing on what’s really a stagnant economy — and getting more people back to work.

I’m Bob Moon for Marketplace.

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