May 29, 2003
It could be a refreshing change that many economic experts, from Alan Greenspan on down, have started to
voice concerns over the specter of deflation. It's likely that, in the long run, the
reality of ever-rising prices will return to the fore. The problem is that we could experience the
worst of both worlds: profit-destroying deflation masked by continuing inflation.
The global economy is beginning to see an acceleration in the deflationary effects
of technology. While this phenomenon can be best epitomized in the "Wal-Mart Effect," where a
global corporation is depressing prices both at the retail and wholesale levels through sheer
competitive drive, a major underlying cause of deflation (and one that's bound to have a growing
impact over the long run) is the Internet. As anyone who's recently
purchased a computer knows, detailed comparisons of commodities by price and other criteria can be
done with a few clicks of a mouse. Sellers of everything from Internet servers to plane tickets
have no choice but to slash prices when a competitor's Web site advertises an identical or similar
product for less. As shoppers do more and more of their buying online, and Internet connections
continue to multiply and accelerate, all pricing and quality will become virtually transparent. The
day is not far off when I'll be able to ask for the best price for bananas at the local fruit stands
as I walk down the street, and be directed to that stand by the same tiny gizmo that answered my
price inquiry.
While the prospect of flat-to-falling prices as a long-term trend might sound great to
everyone's inner consumer, the implications of that trend could be frightening. Profit, or more
accurately, the prospect of profit, is what drives business investment: businesses old and new will
only lay out money if they think they have a reasonable chance of making back their money and then
some. If there's little hope of prices rising above the profit threshold in the foreseeable
future, businesses and lenders will choose to hold on to their capital.
It would be one thing if a reluctance to spend led to flat economic growth (which has been
the case for a number of years now). It would be quite another if that reluctance triggered a
deflationary spiral: businesses lay off workers, who in turn spend less and cause another round of
deflation which leads to more lay-offs, triggering a deep recession. Fortunately, that scenario is
unlikely for now. The current unemployment rate of six percent is low by historical standards, as
is the current savings rate of four percent. For the foreseeable future, the vast majority of
Americans who are able and willing to work will continue to have paychecks to spend almost in
their entirety. Whatever Americans might save on lower prices will most likely be spent in other,
and possibly new, ways.
What's more likely is a continuation of current trends: zero or near-zero economic growth and a
stock market that keeps moving sideways along with corporate profits (you heard it here first: in
hindsight, this decade will most likely be known as the Zero Zeroes). That is, a continuation that
lasts until another shock rolls along. Almost as inevitable as another major terrorist attack on
American soil are a long-term rise in energy prices and a rise in government debt levels. Even if
Middle Eastern governments remain willing to provide their oil to America, the oil has to start
running out sooner or later. And Western-style democracies, for all their good traits, have
demonstrated an inability to rein in deficit spending.
Either of these non-violent phenomena could severely damage an American economy already weakened
by deflation. Rising energy prices could take spending dollars out of consumers' pockets and
squeeze corporate profits even as retail prices of those corporations' products remain stagnant.
Government debt, instead of priming the pump, could instead suck dollars away from the private
debt sector, raise interest rates, and send the economy into a tailspin.
Of course, none of this could come to pass, and some of it could be good if it does. The
middlemen and -women of this world will find another way to make a buck for themselves and a
contribution to the world after losing out to the Internet, perhaps in some technology not yet
devised. A gradual decline in petroleum reserves could give an extra kick to conservation efforts
and the search for a viable alternative to fossil fuels. What's for certain is that the world is in
constant flux and that nothing lasts forever, current trends included.
