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Does low inflation hurt the economy?

By The Associated Press
February 20, 2014

Prices at a TJ Maxx. (AP Photo/Elise Amendola)

Prices at a TJ Maxx.
(AP Photo/Elise Amendola)

Historically low inflation has taken hold across the developed world, from the United States to Europe to Japan.

Economists say super-low inflation has likely slowed growth in those regions, which is why the world’s central banks would like prices to rise.

Last year, overall U.S. prices inched up just 1.1 percent, according to the Federal Reserve’s preferred gauge. Inflation has stayed below the Fed’s 2 percent target for two years. It’s even lower in Japan and Europe.

So why is very low inflation bad for the economy? Isn’t it helpful when prices stay low?

Not when they barely budge. Here are some reasons:

— When prices barely move, many people postpone purchases. Why rush, if the same price — or lower — will be available in six months? Collectively, these delays slow consumer spending, the economy’s main fuel.

— Too-low inflation raises the prospect of deflation — a broad decline in prices, pay and the value of stocks, homes or other assets. Deflation can further restrain spending and even tip an economy into recession.

— Retailers engage in harmful price competition. Big chains such as Wal-Mart, Best Buy and Bed, Bath & Beyond, for example, fought a brutal price war during the past holiday shopping season. Thirty-three retail chains cut their profit estimates for the final months of 2013, according to RetailMetrics LLC..

— Low inflation leads many businesses to hoard cash. Higher inflation, by contrast, would erode the cash’s value. So businesses would be more inclined to spend — to hire or buy equipment.

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Copyright  © 2014 Capitol Hill Blue

Copyright  © 2014 The Associated Press  All Rights Reserved.

One Response to Does low inflation hurt the economy?

  1. Pondering_It_All

    February 20, 2014 at 1:05 pm

    It certainly hurts people who owe a lot of money, like homeowners with a fixed-rate 30 year mortgage. When inflation runs at normal rates, the fixed-amount monthly payments are much lower in the later years when you adjust for inflation. With the rates we are seeing now, the economic model of buying your own home is VERY different.

    I finished paying a mortgage about a decade ago, and I distinctly remember that those payments that seemed so large when we bought the house eventually became much cheaper than rent for other houses in the neighborhood.