November 19, 2008 10:44AM
Prices Going Down Doesn’t Seem Bad, Does It?
By Ray Hennessey
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The knee-jerk reaction to the CPI report this morning was that prices had fallen so sharply -- the biggest drop, we're told, in 61 years -- because the economy is weakening, which is bad. Also, as prices drop, the risk of deflation rises, which is also bad. So, the 1 percent fall is bad, right?
It sure doesn't feel that way. On a consumer level, it seems great to pay less to fill up your tank, buy food and stock up on gifts and goods. There are, after all, just 35 shopping days until Christmas.
From a policymaking standpoint, lower prices offer another benefit: flexibility on rates. If the Fed doesn't have to worry about inflation, it can can continue to cut interest rates (though it is running out room). While cutting the Fed Funds rate to 0.5% would come with its own set of potentially nasty side effects, risk of stoking inflation won't be one of them.
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Hi, Ray.
It seems to me that the ridiculous inflation of oil prices up over $140/barrel was the driving force behind the current economic crisis. There was a huge amount of overvaluation of oil, and a follow-on increase in gasoline prices from $1.50 to $4.50 per gallon over the past 5-6 years. A similar change in diesel prices increased the cost of all goods. Fuel oil and kerosene reached epc price points.
We were able to tightern their belts for a while to ride out the oil storm, but the prices didn’t go back down. Since the vast majority of Americans live paycheck to paycheck, eventually something else had to give. Groceries were costing more, heating oil was costing more, electricity was costing more, gasoline was costing more.
So where did people cut? They put off paying their mortgages; many of which were too high and relected a similar ridiculous increase in the cost of housing over the last decade.
Oil exposed a weakness in U.S. Economy — Subprime lending for homeowners. This might not be good for everyone’s 401K in the short term, but in my view, the crash of Oil and the crash of Housing are good things in the long term.
Essentially, Oil was like dropping a large stone in your bathtube. Sure, the water’s rough and a little is going to spill out; but eventually, it’ll get back to normal and we’ll have some reasonable growth in the economy again.
In my view, bail outs will only prolong the pain.