The only thing on Earth that can defy gravity always used to be the price of things – wages never seemed to have this ability and in recent years, many people have suffered from a decline in disposable income, eroding their standard of living. So, it will come as a surprise to many that the head of the International Monetary Fund, Christine Lagarde, is warning that falling prices (deflation) could derail the recovery.
Speaking to the National Press Club in Washington, Ms Lagarde remarked that despite the fact that “optimism in in the air” the recovery remains “fragile”. She commented that: "if inflation is the genie, then deflation is the ogre that must be fought decisively. We see rising risks of deflation, which could prove disastrous for the recovery."
The argument will be familiar to any Japan watchers where deflationary pressure in the economy has been blamed for many years of economic stagnation. Consumers, knowing that prices will be lower in the future, delay (major) purchases causing a drag on demand and stifling job creation. However, given that many families are feeling the economic squeeze as never before, retailers are having to discount goods to get customers into their shops.
Ms Lagarde also pointed out that the withdrawal of the Federal Reserve’s asset purchase programme would need to be carefully handled to avoid volatility in global markets (where much of the injected money has bled). "Overall, the direction is positive, but global growth is still too low, too fragile, and too uneven," she said.
The obvious elephant in the room is that wages have fallen behind prices and the best way to restore the balance is for workers to see an increase in take-home pay. Confidence that employment prospects and job security have improved would also make consumers more willing to spend, of course.