Europe's deflation challenge

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Article Highlights

  • The specter of deflation now haunts Greece, Ireland, Italy, Portugal, and Spain.

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  • Consumer prices are falling Greece, while countries like Ireland, Spain and Portugal are on the cusp of deflation.

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Easy global liquidity from quantitative easing in the United States has masked deflation and public debt vulnerability in the European periphery, and the European Central Bank shows little sign of pursuing policies to address these threats.

In the wake of Europe’s longest postwar economic recession, the specter of deflation now haunts Greece, Ireland, Italy, Portugal, and Spain. Yet the European Central Bank (ECB) shows little sign of pursuing a more accommodative monetary policy that might address the European periphery’s deflation challenge. The inaction of the ECB, coupled with the complacency of European policymakers more generally, is regretful — if deflation does take hold in the European periphery, it will make the resolution of Europe’s ongoing sovereign debt crisis all the more difficult.

The latest European consumer price data leave little room for doubt that the European economy is already in a distinctly disinflationary process. According to Eurostat, overall European inflation has more than halved, from 2.6 percent for the year that ended in September 2012 to 1.1 percent for the year that ended in September 2013. More troubling yet, the latest inflation numbers indicate that consumer prices are now falling in Greece, while countries like Ireland, Portugal, and Spain are all now on the cusp of price deflation.

The rapid deceleration in European inflation is hardly surprising given the very large output and labor market gaps that presently characterize the European economy. Five years after the Lehman Brothers crisis, the European economy is yet to regain its pre-2008 output level, while overall European unemployment remains stuck at a record rate of 12 percent. Meanwhile, output gaps in countries like Italy and Spain are now well in excess of 10 percent and unemployment in the European periphery is considerably above the high European average.

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About the Author

 

Desmond
Lachman
  • Desmond Lachman joined AEI after serving as a managing director and chief emerging market economic strategist at Salomon Smith Barney. He previously served as deputy director in the International Monetary Fund's (IMF) Policy Development and Review Department and was active in staff formulation of IMF policies. Mr. Lachman has written extensively on the global economic crisis, the U.S. housing market bust, the U.S. dollar, and the strains in the euro area. At AEI, Mr. Lachman is focused on the global macroeconomy, global currency issues, and the multilateral lending agencies.
  • Phone: 202-862-5844
    Email: dlachman@aei.org
  • Assistant Info

    Name: Emma Bennett
    Phone: 202.862.5862
    Email: emma.bennett@aei.org

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