Spain views inflation drop as an indicator that adjustment is on the right track
Alejandro Bolaños Madrid 25 NOV 2013
Can something be good and bad at the same time? Yes, according to the European Central Bank’s (ECB) reading of the downward trend in prices.
For the ECB the fact that prices are falling in countries undergoing severe adjustments such as Spain and Greece is good news. But the fact that inflation in the euro zone as a whole is deviating from the ECB’s medium-term target of close to, but below, two percent (it was 0.7 percent in October), when economic activity remains stagnant, is a bad sign. And what the ECB’s unexpected cut in its key intervention rate to 0.25 percent at the start of this month points to is the fear of the worst of ills in an economic crisis: deflation.
The Great Depression in the United States in the 1930s bears bitter witness to the destruction that can be wreaked by a persistent and generalized fall in prices. A more recent experience of its effects was the stranglehold inflicted on the Japanese economy in the 1990s, from which it has yet to fully recover. What happened to the once-dynamic Japanese economy has led experts of late to speak of the “Japanization” of Europe.
Even more recently, in 2009, during the “Great Recession,” which came in the wake of the global financial crisis unleashed by the demise of Lehman Brothers in 2008, inflation turned negative in the majority of western countries. That development as a result of the global economy’s collapse is even more salient in that 2008 was marked by a run-up in raw material prices. José Carlos Díez, who teaches economics at the ICADE business school, believes the striking difference between the Great Depression and the Great Recession “was the response.” The G20 governments launched a coordinated and unprecedented fiscal stimulus drive, while Western central banks injected massive amounts of liquidity into the system and rapidly lowered interest rates.
The United States didn’t stop there. It embarked on a herculean bail-out of the financial sector, while the US Federal Reserve cut interest rates to zero and intervened directly in the economy through quantitative easing, buying up public debt and fixed-interest paper issued by the private sector to prop up the value of assets.