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At a press conference last week, the leader of an illustrious organization told reporters that, although he had no explanation for recent deflation, measures would be taken to prevent further deflation. For the New England Patriots football team, such measures include inflating game balls below quarterback Tom Brady’s preference for the lower-end of the league mandated 12.5 to 13.5 pounds per square inch range.
In the case of the European Central Bank , it means injecting 60 billion Euros into the economy each month in a new and expanded round of quantitative easing. Both efforts are inflationary and, according to some, necessary. While, as Brady explained, the deflated ball situation “isn’t ISIS…no one’s dying,” economic deflation has far more serious consequences. Global central banks have engaged in massive quantitative easing since Japan introduced the practice in the early 2000s. The ECB is arriving late to this solution largely due to resistance from the Germans caused by their fear of rampant inflation.
But The Economist and Nobel Laureate Paul Krugman both tell us deflation, not inflation, is the greater cause for concern, having provided the “toxic” soil necessary for Nazism to flourish in the early 1930s. Why? If the money in your bank account will purchase more goods tomorrow than today without any effort on your part, why bother spending now? If the purchasing power of your savings account is going up, so is the value of the debt you must repay, another disincentive to go out and buy things.
The result is flagging GDP mired in a downward spiral that Japan’s experience proves is very difficult to reverse. Fear of deflation explains why the ECB announced additional quantitative easing, but the question remains whether it will be enough. Domestic interest rates are weighed down by global deflation, and until we see a meaningful increase in consumer spending domestically, and perhaps globally, the argument for higher interest rates will resonate less and less.
Sources: ESPN, The Economist, Bloomberg