George Osborne has claimed 0% inflation in the UK is good news this morning and that this wholly unintended circumstance is part of the Tory economic plan.
He is profoundly wrong. First, he never predicted or wanted this. Second, whilst it is true that if zero inflation lasts for a few months then it is true could create a short term consumer boom in this country that is not true after that time period.
As it continues people realise they will not be getting pay rises so they reduce spending.
And business decides not to invest as it will be cheaper next year.
And household debts go up in value as they are fixed in monetary terms.
And real interest rates increase too as they are always positive but the fixed obligation goes up in real terms as the value of money falls.
And suddenly we are in recession, for maybe decades.
The word is zero inflation and deflation will only last a few months so we need not worry. But look at this graph:
If you can see sign of a flattening trend at the right hand end, or of imminent reversal with marked upward movements in rates imminent then I suspect you are a fantasist.
We are heading for serious deflation and that requires serious and rapid action to address it.
Staring with green quantitative easing and the delivery of the Green New Deal would be a good start.
But I am not hearing that message. And that's worrying.
Thanks for reading this post.
You can share this post on social media of your choice by clicking these icons:
You can subscribe to this blog's daily email here.
And if you would like to support this blog you can, here:
Whatever happens Mr Osborne claims it is part of his “successful long term economic plan”. It is astonishing how he gets away with this.
Considering that part of the supposed essence of neoliberalism, and the banner slogan of its acolytes, is the denial of the possible benefits of the conscious planning principle in human economic affairs (yes, I know that enormous international corporations do it, but that apparently doesn’t count), and the denial in particular of the successful role of governments in such an enterprise, he’s having a wonderful attempt at turning his clothes inside-out whilst still standing on one leg.
It’s because you aren’t hearing that message you need to keep saying it.
The cynical side of me screams “Shock Doctrine” and wonders if this is a designed crises that Labour or whoever gets in will have to deal with the negative consequences that such a situation entails. Everything about this current government screams about engineered social net destruction. Seeing this chart and the timing screams ‘set up’.
Am doing a lot of quiet screaming at the moment.
Richard and other ‘renegades’ have been predicting an deflationary outcome for years, which is why I tend to believe them above government sponsored shills. From scouting around on the net briefly it seems that deflation is generally regarded negatively, as it causes a transfer of wealth from borrowers and holders of ‘illiquid’ assets, to the benefit of savers and of holders of liquid assets and currency, and because confused pricing signals cause malinvestment, in the form of under-investment. On top of that we’ve had real incomes cut by austerity; now deflation can be used as a signal to reduce median incomes even more at the same time as the ratio to median incomes vs genuine outgoings and costs increases. People’s median incomes go down, tax take goes down, states borrow more. People’s median incomes go down, they have less to spend, so they take on more personal debt. I know I’m repeating myself here as I’ve posed this rhetorical scenario before but… with overall tax take forecast to reduce as a proportion of expenditure (tax cuts, tax dodging, a low income economy producing less overall tax income, DEFLATION) and with economies around the world borrowing money to meet the shortfall, what is going to happen when private investment and priveq is allowed to run riot when more or all ‘public’ services are privatised because government say there isn’t enough public money to maintain them? With that decreased amount of public money actually going to meet profit targets, shareholder demands, executive pay and bonuses and private equity debt, even less money will be spent on delivering actual services (for the most recent examples see the Swissport fiasco at Gatport Airwick, CityLink, Phones4U, Southern Cross care homes, and so many more). With austerity hobbling the ability of people to move their money into the economy beyond their non-discretionary costs, how will private equity backed enterprises pay back their debts when they are receiving less money? When the creditors of nations want their money back and it isn’t there because tax money is being used to support other private wealth, what happens when they realise they’re never going to get the money back? Because there will never be enough public money to meet the voracious demands of the market?
The answer has to be QE
There isn’t another one
Preferably green QE
Ann Pettifor “Europeans have no experience or memory of deflation. This is a worry. Britain and the EU will likely experience deflation in 2015. Disinflation — a slowing in the rise of price inflation — is already a feature of our economies. To understand disinflation and deflation, it helps to view both through the lens of debt.
Lending to the finance, insurance and real estate (FIRE) sectors far outweighs lending to the real, productive economy. Some estimates have put lending to the FIRE sector at 80 per cent of the total. Borrowing to finance the purchase of pre-existing assets rather than new, productive activity invariably inflates the prices of assets. Before the crisis, central bankers ignored inflated asset prices, but applied downward pressure on wages and prices.
Rises in asset prices oblige new commercial and household borrowers to borrow higher sums. But the larger the share of total income aimed at debt payments (even with low rates), the smaller the share of income that is aimed at investment and the purchase of goods and services. This places further downward pressure on both consumer prices and wages.
This disturbing phenomenon was a feature of the UK economy before the crisis. All three are linked, and conspire to contract activity in the real, productive sectors of the economy. UK bank lending to the real estate sector has started to decline, and house price rises have slowed. Falling asset prices will likely only exacerbate both the debt overhang and falls in consumer prices and wages.
It is doubtful whether central banks and finance ministries have sufficient policy tools to arrest a generalised, downward spiral of prices, which will lead to declines in profits, further falls in real wages, rising unemployment and ever-sharper falls in prices. Which is why deflation is such a terrifying prospect.” http://www.primeeconomics.org/articles/uk-economy-2015
I agree with Ann
She has this right
FWIW I agree – I believe that this is what I have been seeing too – namely real purchasing capacity in the economy turned into lending capacity – the same money has just been moved around from the purchaser side to the lender side.
I’ve got to say it’s a grim prognosis but no less true for it.
Evening standard is saying pay is rising by 1.6pc excluding bonuses so dosent that mean people have more money? The standard us saying this is a good thing and you are saying it’s bad. I’m confused to be honest
At this pre use moment pay is increasing faster than inflation after seven years or so when the reverse was true
I am suggesting that pay rises will end quite quickly if deflation continues for more than a few months. Why wouldn’t it? It won’t fall yet, but rises are very unlikely.
To assume otherwise is absurd
According to John Maynard Keynes deflation increases the value of money, but only if you happen to be “a holder of money”. This was explained well by Irving Fisher after the wall street crash who said after the great depression that the economic bubble had inflated stocks which had been purchased by debt — money created as a debt by banks. When the bubble burst the value fell in stocks but the fixed debt was still in place — overvalued compared to assets.
Paying back over valued debt during a period of austerity caused debt deflation, which is a falling money supply caused by paying overvalued debt beyond the ability of the economy to pay. Many defaulted and lost everything. Fewer people have money, but those that do can pick up goods cheap because of what Irving Fisher called distressed selling, which could included undervalued assets.
So Keynes stated accurately that deflation is a transfer of wealth from the poor to the rich. Or from those with no money to “holders of money” as he said.
This translates today in the oil regions, Russia, Venezuela , Brent etc, having economic troubles due to falling oil prices. Other considerations are the increasing poverty and deprivation in Britain — the poor cannot benefit from deflation — they lose because they have no money and need foodbanks.
Those who do have money will buy imports and assets. Falling prices in the shops will cause job losses, and as you stated above — their falls in income will increase the real value of their debts.
The help to buy has increased the mortgage debt while incomes are falling in real terms — this could lead to another crisis.
An interesting subject.
Zero percent inflation with falling asset prices.
How long before that equates to a RISE in mortgage interest rates and a fall in wages/salaries?
“What is immediately apparent is that if the economy gets into the southeastern region of the diagram – below the line y = 0, so that the economy has excess capacity, and also below the line i = 0, so that it is in a liquidity trap – it cannot get out. The output gap feeds expectations of deflation, and since the nominal interest rate cannot fall this implies a rising real interest rate, worsening the output gap. The economy, in short, falls into a deflationary spiral. And once the economy is in such a spiral, accelerating the rate of monetary growth will (if we take the model literally) do nothing to stop it”
http://web.mit.edu/krugman/www/spiral.html
Why do people buy so many electrical goods, including businesses, when they know for sure that they will be some 20%, 30% cheaper next year? Surely, if this is the case, 1%,2% or 3% isn’t going to stop people buying things that they want now. Similarly, why do people buy things on credit, if by waiting a year they could save the money saving 20% on credit card interes. Do you have any empirical evidence for this behavioural claim?
Japan
Japan hasn’t had deflation. Look at the cpi figures. They’ve not had inflation which has created this myth that they’ve had falling prices. But the cpi figures show prices varying up and down between about 98 and 104 since the early 90s. Have a look at the cpi graph from the 70s to now. Steady price increases until about 1993 and then almost perfectly horizontal. Japan has had price stability, not deflation.
Because of QE…..
James is right. I’ve always thought the argument that “deflation is bad because people defer purchases” always a bit too, well, simplistic. Clearly it has no validity when considering essentials such as food, clothes, fuel etc. because people need to buy those things now. Even computers and electrical equipment are in this category now. In fact, all these items have been falling in price for several months now (indeed, this is the main reason we now have 0% inflation). I don’t know anyone who has deferred the purchase of a computer in the last couple of years because it would be cheaper next year. They buy now notwithstanding that the cost of computers has been falling for years. So as an argument, it has a sort of superficial attraction, but in reality, it is weak.
It is weak because you can’t imagine it happening
I suspect you could not imagine a major banking collapse in 2007
It happened
Open your eyes
And stop thinking the world revolves around you
So you agree Japan hasn’t had deflation. Then what evidence do you have that people defer purchases if they expect prices to decline?
I’ve never come across a good case to support thus argument but it seems everyone just blindly assumes it is true.
The whole of the economic theory of a time preference for money suggests it
Maybe you want to reject that too?
I do believe in time preference. And it is why I think the deferred purchases theory in baloney. People have positive time preference. They prefer things now rather than later. So they buy something today rather than wait a year to save 2% on the price.
Is not this fall in inflation distorted by a number of specific factors, the biggest factor being the price of Oil, which may reverse quite suddenly?
It may
Why do you think it will though?
Explain the macro changes that would do that< and their likelihood
But in 6 months or so the fall in oil will be out of the CPI calculation and then inflation could be back (according to an economist on R4 this morning)
And what reverses that trend?
Just that?
I don’t think so
BUT I could be wrong. I accept that
A slightly more slanted viewpoint:
https://notayesmanseconomics.wordpress.com/2015/03/25/how-will-the-bank-of-england-respond-to-zero-inflation/