UPDATE 1-IMF economist sees deflation risk, especially in euro zone-report

Mon Mar 10, 2014 12:32pm EDT

BERLIN, March 10 (Reuters) - The chief economist of the International Monetary Fund sees a risk of deflation, particularly in the euro zone, German newspaper Handelsblatt reported him as saying.

"The risk of deflation, especially in the euro zone, definitely exists," Olivier Blanchard was quoted as saying in a pre-publication copy of an article due to be published on Tuesday.

Inflation is running at 0.8 percent in the single currency bloc, far below the European Central Bank's target of just under 2 percent. Last week ECB President Mario Draghi said the longer it stays at such low levels, the harder it will be to get it back up to the target.

Blanchard said deflation in countries like Spain and Portugal was a double-edged sword: "On the one hand it would certainly improve their competitiveness and help exports but on the other hand it would increase the real interest rate and the real value of debt and so reduce domestic demand."

He said there was a danger that the second effect would be more dominant than the first and that would lead to lower economic output and further deflation.

"Generally, longer periods of low inflation would make the necessary adjustments in the euro zone more difficult," he said.

Blanchard also called on central banks to combat financial market bubbles.

"As soon as prices deviate from their long-term average value, they should intervene. It's better to slow down what could perhaps turn out to be a real estate boom than to let a bubble form," he said.

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