Monday, November 23, 2009

Question About Deflation

Robert asks
"In our industry, the manufacturers claim to be holding prices, but are quietly making all kinds of deals to "help" us be more competitive.

Our competitors are taking those incentives and chasing prospects with what appears to the dealer to be lower prices across the board.

This is new behavior. For the past 8 years, no one really asked what the price was. Currently it's the prime topic.

Then I went online and ordered a pizza from pizzahut Friday. Suddenly every pizza is $10, half the price of the past few years. If that's a short term promotion were ok. If that's the new reality, are we in trouble?"

Let me rephrase Robert's post as three questions:

(1) Is deflation -- that is, a general decline of all prices (both the prices at which we buy, and those at which we sell) -- a problem? Theoretically, it is not a big problem, but just redistributes wealth from those with dollar-denominated liabilities to those with dollar denominated assets. However, this recession arguably got going because of the "underwater mortgages/foreclosure" problem -- a problem that get's better with inflation and worse with deflation. For more on this, see "Inflation, we need you!".

(2) Is there deflation right now, or will there be in the near future? I think we have a bit of inflation right now, and expect more inflation in the next couple of years (see here). It's always a bit difficult to know the inflation/deflation rate precisely, because a lot of price changes can be pretty subtle, as with the promotional discounts indicated in Robert's post. But the Bureau of Economic Analysis and the Dept of Labor have enough serious ways of measuring it that, together with the recent commodity price inflation, I am confident that we do have inflation.

(3) If not general deflation, what is Robert supposed to make of his observations? It's no surprise that various manufacturing prices have been falling a bit over 2009, after falling significantly at the end of 2008. If he's seeing more drops than a "bit" then that's some bad news for his segment of manufacturing.

(4) The pizza bargains may indicate that his region's economy is tougher than the national average, or merely that Robert hasn't purchased a pizza for a year or two (maybe the case -- that's about the time frame he wedded his lovely bride!!).


Karl said...

Casey, do you think that wages display any downward nominal rigidity?

Sheng said...

Who is Roberts anyway?