Deflation

The Department of Labor reported that the seasonally adjusted consumer price index rose 0.2% in the month of January. This was driven almost entirely by higher energy costs. Oil, which had fallen to $40 a barrel during the depths of the recession, bounced back 54% last year.

Core consumer prices, which exclude food and energy purchases, actually fell by 0.1% in January. The last time core prices fell was in December 1982. Economists surveyed by the Dow Jones Newswires were expecting an increase of 0.3% in the consumer price index and an increase of 0.1% in the core index.

Deflation is the decrease in the general price level of goods and services in the economy. It occurs when the rate of inflation falls below zero. We rarely talk about it, because it rarely occurs. The last major episode of deflation in this country occurred during the Great Depression. Not exactly an experience we wish to repeat.

This bout of deflation will probably last no more than a month or two. We can expect prices to begin to rise soon as the Fed begins to drain the economy of the massive amount of liquidity it offered in effort to stave off a second depression.

Inflation will be the far greater threat over the next several decades. It is very hard to imagine avoiding significant price increases as the supply of money declines, causing fewer dollars to chase the supply of goods and services.

Sources: The Wall Street Journal, Wikipedia