WASHINGTON Dec 30 A historic economic crisis
has left Americans with plenty of things to worry about. But is
inflation one of them? And is there a risk that fretting over
higher prices may actually bring them about?
The answers to these questions will help define the timing
of the Federal Reserve's pullback from an unprecedented level
of monetary stimulus, deployed to combat the worst financial
panic since the Great Depression.
In justifying its pledge to leave interest rates near zero
for the foreseeable future, the Fed takes comfort in inflation
expectations, which policymakers deem comfortably restrained.
On the surface, that appears true. The most recent
Reuters/University of Michigan consumer survey showed a 0.2
percentage point decline in expected inflation one-year out, to
2.5 percent. Market-based barometers have fluttered higher,
though not alarmingly so.
Yet beneath the weak economic backdrop keeping prices in
check, economists and consumers are increasingly uneasy about
the prospect of a continuous loss of purchasing power -- the
very definition of inflation.
"We have the most potentially inflationary policy I have
ever observed in a developed country," said Alan Meltzer, a Fed
historian and professor of political economy at the Carnegie
Mellon Tepper School of Business in Pittsburgh.
According to widely used economic models, the way consumers
perceive the prospect of future inflation has clear
implications for prices themselves. Once higher costs are taken
for granted, they are more easily tolerated.
Several indicators are already hinting at that possibility
The price of gold, often viewed as a hedge against
inflation, has set record after record, peaking above $1,200 an
ounce earlier this month before retreating to below $1,100. A
recent JPMorgan survey of clients found that 61 percent
expected U.S. inflation to be "above target" between 2011 and
Another consumer confidence survey, published by The
Conference Board, showed Americans expect prices to climb a
troubling 5.1 percent over the next 12 months.
And Google Trends, a websearch database, shows a sharp
spike in the number of U.S. users looking up the word
"hyperinflation" in late 2008 and early 2009.
"There is a real risk that inflation expectations will rise
above a certain threshold that suggests a loss of credibility
of the Fed," said Laurence Meyer, a former Fed governor now at
Macroeconomic Advisers in Washington, DC.
MIND OVER MATTERS
That may seem surprising considering the world has faced a
crippling financial crisis that many economists warned might
lead to deflation. But it makes sense in the context of the
extraordinary measures taken to halt the meltdown.
Experts who have studied bouts of inflation, most common in
poor or developing countries, say the makings of an
inflationary psychology are already in place in the United
States. It begins, they say, when unfathomably large figures
are bandied about as if they were mere change.
A cascading series of government bailouts certainly fits
into that category. The Treasury spent nearly $800 billion on a
stimulus package that has helped ease the pace of job losses
but not yet begun to reverse them. The Fed committed to buy
more than $1.7 trillion in Treasury and mortgage bonds and
expanded credit in the banking system to over $2.2 trillion.
"There is an unprecedented amount of latent inflation
represented by the $2 trillion monetary base," said Michael
Pento, senior market strategist at Delta Global Advisors.
"Unless the Fed can sell those holdings and raise interest
rates in a timely manner, intractable inflation will be in our
ENTER THE SLACKERS
Another camp of economists say all the hand-wringing is
overdone. They point to the labor market, in its worst shape
since the 1980s, as a sure sign that the economy is
sufficiently weak to keep price pressures at bay.
Japan provides the most obvious model for how such "slack"
can affect prices. As bubbles popped in the housing and stock
markets, the Japanese economy was stuck in a deflationary rut
for the better part of two decades, despite heavy government
During America's last run-in with inflation in the 1970s,
wages were a key channel for price increases. Stronger unions
meant workers could demand cost-of-living increases to keep up
with the ever-rising consumer price index. With that dynamic
largely absent today, say skeptics, inflation fears are
So far, the hard figures corroborate their view. Consumer
prices rose just 1.8 percent in the year through November, and
were up 1.7 percent, excluding food and energy, well beneath
the recent yearly average.
Such tame readings notwithstanding, anxiety about the
longer-term outlook is rising and has been reinforced by the
resilience of energy costs in the face of a global recession.
"We will emerge from the crisis with an excess money supply
because, despite their independence, central bankers are still
feeling the pressure from finance ministers to allow slightly
higher inflation in order to be able to service large public
debts more easily," said Jorg Kramer, chief economist at
(Editing by Padraic Cassidy)