Deflation worries hit Europe

Spain prices Apr09.jpgParts of Europe are now following the US lead and seeing deflation.
Spain saw prices fell 0.1% last month, for the first time since records began in 1961.
In the UK, the retail prices index fell 0.4%, to register the first decline since 1959. Prices have also fallen in Portugal, Ireland and Luxembourg
Economists have been queuing up to explain that this is only temporary. But the blog is not an economist, just a practical business-person. And it remembers many of the same economists telling us last year that a financial crisis was impossible.
The blog’s concern is simple. It believes that inflation and deflation depend on the balance of supply and demand. If demand is greater than supply, then prices and inflation will rise. But if supply is greater than demand, then deflation is a serious possibility.
This seems to be the situation today. Major over-capacity exists in many parts of the global economy, with petrochemicals being just one example. At the same time, demand is low, as consumers prefer to save instead of spend. So prices are falling.
The risk is that this downward spiral might become self-reinforcing. Consumers might come to believe it is better to delay purchases, because they will then be cheaper. This has not happened in the West for a sustained period since the depression. But it did happen in Japan during the 1990’s, and may well now be returning there as well.

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