Fed banker warns of deflation

WASHINGTON - WITH the economy spinning deeper into recession, the United States might suffer a dangerous bout of falling prices, or deflation, a Federal Reserve official warned on Tuesday.

'I think we face some risk - at this point only a risk - of sustained deflation,' James Bullard, president of the Federal Reserve Bank of St. Louis, said in a speech to the New York Association for Business Economics.

A government report, released last month, showed that consumer prices tumbled in December, and inflation last year logged its smallest advance since the early 1950s, fanning new fears that the country may face a dangerous bout of deflation.

Falling prices sound like a gift at first - at least to consumers. But a widespread and prolonged decline can wreak more havoc on the economy, dragging down Americans' wages, and clobbering already-stricken home and stock prices. Dropping prices already are hurting businesses' profits, forcing them to slice capital investments and lay off workers.

'Ongoing deflation in the United States might be particularly pernicious,' Bullard said.

To fend off any deflationary threat, the Fed is expected to hold its key interest rate at a record low for the rest of this year.

America's last serious case of deflation was during the Great Depression in the 1930s. Japan was gripped with a period of deflation during the 1990s, and it took a decade for that country to overcome those problems.

'In some ways, our current environment parallels the Japanese experience after 1990,' Bullard said. 'The Japanese banking system encountered difficulties with 'troubled assets' and the intermediation system broke down. That is an experience that neither we, nor the rest of the world's economies, want to repeat.'-- AP


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