The Washington PostDemocracy Dies in Darkness

Opinion Forget inflation. We should be concerned about deflation.

A television screen on the floor of the New York Stock Exchange on Wednesday shows the decision by the Federal Reserve to leave its key interest rate unchanged. (Richard Drew/AP)

There are times when it seems we’re worrying about things that aren’t worth worrying about. A good example these days is inflation. Amazingly, the complaint is that it’s not rising fast enough. In March, the consumer price index, or CPI, had increased 1.9 percent over the past year. The gain of another inflation indicator, the “deflator” of the personal consumption expenditures, or PCE, was 1.5 percent.

What’s not to like?

Despite criticism from President Trump, all this qualifies as good news. Prices have hardly risen. Indeed, technical difficulties in measuring inflation — for example, how to account for new products, such as smartphones — suggest that actual inflation could be close to zero. Some prices go up (new vehicles, 0.7 percent over the past year); other prices go down (televisions, 19 percent).

The PCE is the Federal Reserve’s preferred inflation indicator. For workers, this means that if their wages and fringe benefits rose by more than 1.5 percent over the year, they would’ve received a modest boost to their “real” (inflation-adjusted) incomes. And yet, some respected economists worry that inflation is too low.

To those of us, including me, old enough to have lived through the double-digit inflation of late 1970s and early 1980s, this is crazy. High and uncontrolled inflation (annually, it peaked at 13 percent in 1979) was a scourge. It sowed almost-universal anxiety and was wildly unpopular. People felt they had lost control of their lives. Government seemed powerless to stop it.

Why would anyone want to re-create this anarchy?

Three reasons are typically given. For starters, critics complain that the Fed isn’t hitting its own inflation target, which is 2 percent on the PCE. This suggests incompetence. If the Fed can’t hit its target, the assumption goes, what else can’t it do? Frankly, this is fearmongering; the Fed simply isn’t powerful enough to hit a precise target. As long as reported inflation stays between zero and 2 percent, the Fed is delivering a crude price stability.

A more realistic concern involves the Fed’s ability to respond to a recession. Typically, the Fed cuts interest rates to reverse an economic downturn. But interest rates, reflecting inflation, are already low. The fear is that the Fed won’t be able to cut rates enough to prevent a recession from getting worse.

Consider. The fed funds rate — the rate on overnight loans and the rate most influenced by the Fed — is now set at about 2.5percent. By contrast, it was 5.25 percent in 2007, the start of the last recession, and higher earlier. If the Fed can only cut rates modestly before they hit zero, then the next recession could be lengthy and stubborn. That’s the argument.

This brings us to the most serious of inflation’s alleged shortcomings. Paradoxically, it’s “deflation” — or falling prices. Of course, some prices are falling even when the overall price level is rising. To take an obvious example: Computers and other tech products have experienced massive price cuts.

No one is against these. By contrast, deflation signifies declines in most prices, and this prospect can do enormous economic damage. The most terrifying example is the Great Depression of the 1930s, when the wholesale price index fell a staggering 33 percent from 1929 to 1933.

The result was to prolong the Depression. Deflation causes people to delay major purchases — they think that prices will go even lower. Deflation also makes it harder for debtors to repay their loans. The economy gets caught in a vicious circle of deflation, weak consumer spending and more loan defaults. In the 1930s, annual unemployment peaked at around 25 percent.

Higher inflation is cast as the antidote to deflation. It’s an extra cushion of protection. This sounds sensible, but it overlooks the likely reality that the transition to higher inflation would create a new set of problems, involving interest rates, exchange rates, consumer and business uncertainty and the stock market, to name just a few.

Moreover, it presumes that deflation would quickly attain Depression-like proportions, when a more likely outcome would be modest deflation. Probably many Americans wouldn’t notice slight price declines; others might seize on them as an opportunity to go bargain-hunting. Indeed, the combination of rigid wages and falling prices would enhance consumer purchasing power and could stimulate an economic recovery.

We have a case study in the probabilities: Japan. It’s been grappling with deflation for years, but price declines have been puny. From 2001 to 2010, the average annual decline was 0.3 percent (that’s one-third of 1 percent), says the International Monetary Fund.

Millions of Americans are unaware of our disastrous experience with double-digit inflation. They have either forgotten or weren’t yet born. The Fed says it won’t abandon its current inflation target of 2 percent. That’s a promise the Fed needs to keep.

Read more from Robert Samuelson’s archive.

Read more:

Robert J. Samuelson: An economic mystery: Why is inflation so low?

Robert J. Samuelson: If you think you understand the economy, you’re not paying attention

Andy Puzder: The naysayers were wrong about the Trump economy

David Von Drehle: Beware the long-lost threat of inflation

Peter Hooper: The Trump administration is making our next recession worse