The Capital

Falling prices? Careful what you wish for, economists say

- By Paul Wiseman

WASHINGTON — Many Americans are in a sour mood about the economy for one main reason: Prices feel too high.

Maybe they’re not rising as fast as they had been, but average prices are still painfully above where they were three years ago. And they’re mostly heading higher still.

Consider a 2-liter bottle of soda: In February 2021, before inflation began heating up, it cost an average of $1.67 in supermarke­ts across America. Three years later? That bottle is going for $2.25 — a 35% increase.

Or egg prices. They soared in 2022, then fell back down. Yet they’re still 43% higher than they were three years ago.

Likewise, the average used-car price: It rocketed from roughly $23,000 in February 2021 to $31,000 in April 2022. By last month, the average was down to $26,752. But that’s still up 16% from February 2021.

Wouldn’t it be great if prices actually fell — what economists call deflation? Who wouldn’t want to fire up a time machine and return to the days before the economy rocketed out of the pandemic recession and sent prices soaring?

At least prices are now rising more slowly — what’s called disinflati­on. On Friday, for example, the government said a key price gauge rose 0.3% in February, down from a 0.4% gain in January. Compared with a year earlier, prices were up 2.5%, way down from a peak of 7.1% in mid-2022.

But incrementa­l improvemen­ts are not enough to please the public, whose discontent on prices poses a risk to President Joe Biden’s reelection bid.

“Most Americans are not just looking for disinflati­on,’’ Lisa Cook, a member of the Federal Reserve’s Board of Governors, said last year. “They’re looking for deflation. They want these prices to be back where they were before the pandemic.’’

Many economists caution, though, that consumers should be careful what they wish for. Falling prices across the economy would actually be an unhealthy sign.

Deflation defined

Deflation is a widespread and sustained drop in prices across the economy. Occasional month-to-month drops in consumer prices don’t count. The United States hasn’t seen genuine deflation since the Great Depression of the 1930s.

Deflation’s harm

“Although lower prices may seem like a good thing,’’ Banco de España, the Spanish central bank, says on its website, “deflation can in fact be highly damaging to the economy.’’

Mainly because falling prices tend to discourage consumers from spending. Why buy now if you can purchase what you want — cars, furniture, appliances, vacations — at a lower price later?

The reality is that the economy’s health depends on steady consumer purchases. In the United States, household spending accounts for around 70% of the entire economy.

If consumers were to pull back, en masse, to await lower prices, businesses would face intense pressure to cut prices even more.

Employers might have to lay off waves of employees or cut pay — or both. Unemployed people are even less likely to spend, so prices would likely keep falling. All of which risks triggering a “deflationa­ry spiral’’ of price cuts, layoffs, more price cuts and more layoffs.

Fallout from deflation

It’s certainly true that Americans can make their paychecks go further when prices are falling. If food or gasoline prices were to tumble, households would surely find it less painful to afford groceries or their commutes to work — as long as they remained employed.

But according to some researcher­s, the biggest economic risk comes not from falling prices for goods and services but rather from a freefall in the price of assets — stocks, bonds and real estate. Those collapsing assets, in turn, can topple banks that hold crumbling investment­s or that made loans to struggling real estate developers and homebuyers.

The damaged banks may then cut off credit — the lifeblood of the broader economy.

The likely result? A painful recession.

 ?? CHARLES KRUPA/AP ?? A carton of eggs sits on a kitchen counter March 17, 2023, in East Derry, New Hampshire. Egg prices are 43% higher than they were three years ago.
CHARLES KRUPA/AP A carton of eggs sits on a kitchen counter March 17, 2023, in East Derry, New Hampshire. Egg prices are 43% higher than they were three years ago.

Newspapers in English

Newspapers from United States