Cars are piling up in storage because dealers don't want bloated inventories. Chinese factories are running out of room for all the appliances they're turning out but can't ship. The prices of flat-screen TVs are plummeting; and Americans are so sure housing prices will continue falling that they would rather wait than take the plunge back into real estate.
These are some of the disquieting signs that the once-distant spectre of deflation is looming larger on the horizon, now that economies around the world have fallen into the iron grip of a deep recession.
The latest news has only added to growing fears that the existing global credit mess and feeble economies could be the springboard for a crippling bout of deflation of the sort that derailed the once-thriving Japanese economy for about a decade.
The U.S. consumer price index, the broadest measure of inflation in the economy, fell 1 per cent last month, the biggest monthly decline since the CPI was introduced in 1947. And U.S. producer prices, a gauge of inflation at the wholesale level, slid a record 1.8 per cent. In Britain, consumer prices fell the most since 1992.
"Why should prices be going up?" asked Jesper Koll, CEO of Tantallon Research Japan. "It's not as though the factories of the world … have stopped making things. Something like three years of global demand for refrigerators is in warehouses in China."
The main reason for the steep drop in the cost of living was the plunge in oil prices. But it was enough to send jittery equity investors rushing for the exits yesterday. And it is yet another indicator that policy makers should forget about the risks of inflation and focus their remaining ammunition on preventing deflation.
"Governments can't let deflation expectations get entrenched, or people will stop spending," said Arthur Heinmaa, managing partner with Toron Capital Markets in Toronto, who has been sounding the deflation alarm bells for some time. "That's going to be very difficult to turn around."
Those that fail to nip deflation in the bud face years of dismal economic performance, staggering unemployment and deeply pessimistic consumers and businesses that cease spending and focus on surviving, economy watchers warn.
The "price slashing now under way as the [U.S.]consumer beats a hasty retreat could allow that corrosive deflationary spiral to take hold," Sheryl King, senior U.S. economist with Merrill Lynch, wrote in a note to clients.
Consumers or businesses saddled with high fixed-debt costs such as mortgages would face a particularly tough time in such a deflationary environment, because even rock-bottom interest rates would result "in an unbearable financial burden," Mr. Heinmaa said.
Most analysts say deflation is not lurking just around the corner, but several acknowledge that it may have begun moving quietly into the neighbourhood and that it could make these difficult times seem mild by comparison.
"It is not a high risk. But if it does happen, it would be a very, very bad situation," said Michael Gregory, a senior economist with BMO Nesbitt Burns. "This is what is driving policy right now."
That means further aggressive rate cuts, large fiscal stimulus packages and other measures designed to free up credit and boost spending.
Bank of Canada Governor Mark Carney said yesterday that he believes Canada will escape the deflation threat, but he hinted strongly that further rate cuts are in the offing to aid the deteriorating economy.
"It's important to say that we're expecting a growth in consumer demand, because in some other jurisdictions they're expecting shrinkage," Mr. Carney said after a speech in London's financial district.
But he warned that Canada is not isolated from global trends.
Inflation can be wrestled to the ground by tightening credit and putting the brakes on an economy. A deflationary spiral is tougher to pull out of. It would require massive cash outlays by governments, which is how the last major global bout of deflation was overcome during the Great Depression.
But the usual pump-priming by central banks this time is having limited impact, because of the tough credit conditions already prevailing, which are another precursor to deflation.
Outright deflation - defined as prolonged declines in prices across a wide range of goods and services - "is very hard to get in a modern economy," said Allen Sinai, a global strategist and president of Decision Economics Inc. in New York.
For the next three to five months, "we will see a lot of declines in price indices in many countries around the world. But that doesn't mean we have entered a period of deflation. It's possible, but it's premature to elevate it to a point of concern."
What is more likely - and what is already occurring - is continued disinflation, as prices of commodities and other goods slide.
"The risks of deflation would only become realistic if the economy went through a serious downturn that opened up massive economic slack," said Avery Shenfeld, an economist with CIBC World Markets. "That's exactly what the central banks are fighting to avoid."
In recent decades, only Japan has fallen victim to the ravages of prolonged deflation. And the lessons learned so painfully have not been lost on policy makers elsewhere.
Japan saw prices decline for most of a decade starting in 1995, the longest such spell in any industrialized country since the Depression. The country only narrowly avoided a full deflationary spiral, in which tumbling prices translate into lower production, leading to lower wages and shrinking demand and another round of falling prices.
Critics argued that Japanese authorities should have attacked the problem more aggressively and much sooner by boosting the money supply and getting much more credit into the hands of consumers.
One such critic was Ben Bernanke, now head of the U.S. Federal Reserve Board.
Shortly after joining the Fed board in 2002, Mr. Bernanke addressed the subject of deflation at a time when stock and other asset prices were falling and U.S. inflation was a low 2 per cent.
"I am confident that the Fed has sufficient policy instruments to ensure that any deflation that might occur would be both mild and brief," he declared. He labelled one such instrument, tax cuts combined with large purchases of U.S. Treasuries, as equivalent to a "helicopter drop of money." This led to his nickname: "Helicopter Ben."
The question is whether it's time to get the rotor blades turning again.
With reports from Marcus Gee in Toronto and Doug Saunders in London
SIGNS DEFLATION IS NOT AN IMPOSSIBILITY
- -1%: Drop in U.S. Consumer Price Index, from September to October (largest one-month drop ever)
- -13.9%: Drop in motor fuels prices, from September to October
- -4.8%: Drop in airline fares, from September to October
- 0.7%: Drop in the prices of new and used vehicles, from September to October. Prices have fallen 2.3 per cent since October, 2007.
- style="list-style: none"> Source: U.S. Department of Labour Statistics
DEFLATION IN HISTORY
The last period of prolonged price declines in North America was during the Great Depression.
Most economies go through occasional periods when prices decline for a month or two and inflation falls - a process known as disinflation. This happened in the U.S. in 1961 and again in 2001.
But while the U.S. hasn't seen year-over-year declines in the consumer price index for almost six decades, Japan suffered through deflation for most of the 1990s.
Once deflation sets in, policy options are limited. With interest rates already low, further cuts are unlikely to provide the necessary economic stimulus unless credit markets start functioning more normally, economists say. Virginia Galt