fed on deflation

Charles Jannuzi b_rieux at yahoo.com
Thu Jun 27 02:13:31 PDT 2002



>That the Fed staff was interested in
>investigating this - and
>Greenspan has long been said to be >interested
in
>the topic - suggests
>that they're thinking about the risks of >U.S.
deflation. There's
>little doubt that's why they eased so
>aggressively last year.
>Doug

Japan's deflation seems to be mostly a result of a perfect storm of an overly strong currency (largely engineered by the US), cheap commodities, and overproduction (worldwide, which turns most everything into a commodity). In Japan, it was exacerbated by deregulation of retail and distribution that increased competition and price cutting. Japan's economy has a very high proportion of imported unfinished goods to imported finished goods. I mean it imports a lot of raw material relative to manufactured stuff. But the main reason the proportion is so in favor of unfinished goods is Japan imports almost ALL its raw material. A strong currency enables importers to buy everything cheaply and sooner or later, if there is competition, someone will try to pass along the savings in order to get market share.The domestic retail market in Japan is VERY competitive.

The US's main anti-deflation policy right now would seem to be a cheap currency. And the US is sending out 'ominous' signals (US Chamber of Commerce for example) to Japan to stop interfering with where the 'markets' are taking the yen (ever higher--not really because 'markets' are reading the Japanese economy's fundamentals as strong but because they are reading US exchange rate policy loud and clear). On the other hand, the problem for the US is as the dollar tanks vs. the euro and the yen, why in the hell, people overseas ask, should they keep any of their money in the US?

So, what if the US fails to shore up the dollar vs. the euro and the yen and everyone gets out of US securities? What happens?

The other measure the US has already taken to stem deflation is the use of tariffs on steel. (Remember the US has already had quotas on cars and computer chips, and was even asking for renewal of agreements on these under Clinton II). It's nice that unease about Iraq and Venezuela helps keep the price of oil up some.

Cutting rates to zero and keeping them there didn't stop deflation in Japan. But Japan is more an 'indicator species' for the OECD than the US or a European country. It's not locked into any major free trade agreement. It's currency is mostly held in Japan only. It has no resource rich hinterland (hence the exposure to volatility in just about any natural resource you can think of except water and sand to make concrete).

I believe the US will keep the dollar cheap to stem deflation (even as the rhetoric says things like, gosh, the dollar is still over-valued), but try to keep it high enough that US securities don't collapse.

If the Dow goes the way the Nikkei did, and the housing market tanks, the US will be worse off than Japan was in, say, 1994. But hey, with all the growth in productivity, responsiveness to stock holders, reform of corporate management, the new new new economy, etc, the US will have nothing to worry about, right?

CJ

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