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Change the Subject: It's Time to Talk About Deflation and Unemployment, Not Deficits and Debts

By Carter Dougherty

Updated on: June 10, 2010 / 4:22 PM EDT / MoneyWatch

As a danger to the global economy, the risk of deflation never really left us. Now that threat is here, making itself felt. Let's all take it a little more seriously, okay?

David Wessel, the estimable WSJ reporter who has written intelligently and entertainingly about the Federal Reserve for years, once called regional Fed bank presidents the "jocks" who make waves by pounding on the table about inflation dangers. So it's a little disconcerting when Richard Fisher, the Dallas Fed president and one of Wessel's jocks, quits hyperventilating about inflation.

"I don't think the situation yet calls for" interest rate increases to head off inflation, Fisher said. From the Journal, we learn that Fisher has a particular affinity for the "trimmed mean," a measure of inflation that throws out the highest and lowest increases, just like they do in Olympic skating competitions. What we learn from that measure of inflation should scare us.

Really. In January 2008, inflation was running at about a 2.5 percent rate, but has since tumbled, in March, to about 1 percent, by this measure. Statistics being what they are -- i.e. they have margins of error, or reflect some pure state of being that none of us actually match up to -- this amounts to deflation, or something very close to it. It's a shame Fisher doesn't say so outright, but that might be beyond the limits of what a Fed official can do. But let's not all be Fed officials, muted by the weight of responsibility.

The evidence of looming deflation is popping up elsewhere in the world as well. Germany, perpetually angst-ing about inflation, is at a core inflation rate of around 0.3 percent. Japan is, well, Japan, flirting with deflation yet again.

Those not in official positions can call it what it is, and what we should call it as often as we can: the very real, must-be-taken-seriously threat of deflation, one that doesn't go away by talking about fiscal tightening. Martin Wolf of the Financial Times gets to the heart of the (political) problem in his column:

A consensus is forming that policymakers should tighten fiscal policy, sharply, in countries with large fiscal deficits. Yet what makes these policymakers sure that business and consumers will spend in response to austerity? What if they find that it tips economies into recession, or even deflation? ... Premature fiscal tightening is, warns experience, as big a danger as delayed tightening would be. There are no certainties here. The world economy -- or at least that of the advanced countries -- remains disturbingly fragile. Only those who believe the economy is a morality play, in which those they deem wicked should suffer punishment, would enjoy that painful result.

Wolf does not pull any punches. He warns that global leaders risk doing to the world economy what the United States did to its own in 1937 (too rapid pullback from stimulus) and what Japan did in 1997 (tax increases too early). Those are, in case you're wondering, epic mistakes -- failures of leadership that imposed hardship and influenced political systems for years to come.

But still we get headlines like "Bernanke Says the Federal Debt is 'Unsustainable'" in the The New York Times. Almost as though the Gray Lady is eager for a change of tune. Bloomberg didn't simply sway with the wind: it emphasized Bernanke's words that the Fed will do what is necessary to support the recovery. That's comforting -- the Fed seems to be looking for some balance. Its mandate is to care a bit about whether people are working in Peoria (as some of them are, thanks to the construction project pictured here).

There's a pattern here. We're talking more and more about deficits at a time when the clearest and present-est dangers are unemployment and deflation. The massive crisis caused by a big debt overhang in the United States at best a theoretical possibility some time in the future. Right now, markets can't get enough Treasuries, which means the country is more than solvent. Ten percent of the workforce ain't working, but the country is solvent.

Let's change the subject from deficit and debt to deflation and unemployment. Now.

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