NYT piece on "Glut of Bargains" / deflation possibility.
November 25, 2001
Glut of Bargains Cheers Shoppers
but May Take Toll on Economy
By DAVID LEONHARDT
Attention, shoppers: America is now on sale.
Airlines and hotels are offering deep discounts.
Carmakers are extending interest-free loans.
Department stores have already marked many items
down sharply. The price of computers continues to
plummet.
Commercial rents are falling for the first time in a
decade. Businesses are paying less for many basic
materials than they were a few months ago. And a
gallon of gasoline costs 25 percent less than it did in
June.
In industry after industry, companies find themselves
with too many products in their warehouses and too much machinery on their factory floors, even after a year of
economic weakness and corporate cost-cutting. One result, in many parts of the economy, is a lingering glut of
goods and accompanying price cuts.
For all the benefits that the nationwide sale has brought to consumers, it also carries a darker side: that the United
States could suffer an extended period of declining prices, known as deflation, which could deepen the first
recession in 10 years.
Over all, even though the cost of services is still rising, consumer prices have remained flat over the last six months,
the first time in 15 years they have failed to rise over a sustained period. The prices that businesses pay for crude
materials have fallen for six consecutive months, and, in October, dropped 9.1 percent. Since the government began
keeping such statistics in 1947, the only larger monthly decline came in February this year.
For now, the absence of inflation is one of the few bright spots for consumers,
whose holiday spending will go a long way toward determining how quickly the
economy emerges from its downturn.
The fall in energy prices alone has given households an additional $10 billion in
spending money, or $100 a household, over the last five months, according to
Economy.com, a consulting firm in West Chester, Pa. The average price for a
gallon of gas — $1.20 — is back where it was in 1985.
Should the price declines spread further, many businesses would be forced to
begin yet another round of job cuts. In a deflationary economy, such as now
prevails in Japan, wages drop as well, and people and businesses struggle to pay
off debts, which effectively become larger as the value of money declines.
Most economists consider that unlikely in the United States, saying aggressive
steps by the Federal Reserve have pumped billions of dollars into the economy,
helping to stabilize prices and lift demand next year.
Still, the extent of the price decreases, and the oversupply of products causing
them, suggest that the economic recovery is unlikely to be a robust one, many
analysts say. In October, companies used only 74.8 percent of their industrial
capacity, the lowest level since 1983, as many continued to suffer a hangover
from their overly optimistic purchasing of new equipment in the late 90's.
Even if demand for their products begins to rise soon, businesses will not
increase their investments again until they are using more of their existing
capacity, economists say. "Inventories are still excessive, and companies are
suffering a squeeze on profit margins," said John Lonski, chief economist at
Moody's Investors Service, the credit rating agency. "That tells me that at best
the recovery is going to be modest."
The recent price declines follow years of mild inflation that, according to many
economic models, should have gradually picked up steam as the economy
boomed in the second half of the 1990's. Instead, a strong dollar and a flood of
imports helped keep inflation low, forcing businesses to increase profits primarily by becoming more efficient rather
than raising prices.
Between 1992 and 1999, inflation on consumer goods never exceeded 3.5 percent over a 12-month period. In
previous booms, it sometimes reached 6 percent or more.
When the United States economy seemed to fall into recession this year, inflation all but disappeared. The one
exception was oil prices, because producers found themselves without enough supply to meet the surge of demand
as Asian countries recovered from their financial crisis of the late 90's. But by the summer, the economic slowdown
— which had spread to nearly every large country in the world — depressed energy prices, too.
After energy, the biggest recent price declines have come in industries that are operating far below capacity.
The starkest case is technology. Prices for computers and semiconductors have been falling for years, as advances
have cut costs and manufacturers have become far more efficient. Throughout the 90's, though, profits continued
to rise as both consumers and businesses quickly replaced old equipment with the latest innovations.
But businesses sharply reduced their technology budgets at the end of last year, deciding, at least temporarily, that
they already owned all the equipment they needed. Computer manufacturers were forced to curtail production; their
output fell last month to 61.3 percent of capacity — a record low — down from 80 percent a year ago.
Price cuts have accelerated over the same period, and computers are about 30 percent less expensive than they
were a year ago, according to the Bureau of Labor Statistics.
But there is a price to pay for too much of a good thing. Widespread price declines "are a double-edged sword for
U.S. companies," said Edward McKelvey, a senior economist at Goldman, Sachs & Company. "One company's
cost is another company's output price."
Even some industries that have been shrinking in recent years find themselves with excess production capacity. The
United States textile industry, under relentless pressure from overseas, has become smaller in each of the last five
years. But the industry still finds itself bloated and forced to cut prices. A flood of imports from Asian countries that
had devalued their currencies in the late 90's was already restraining inflation. The worldwide slowdown in demand
has caused the price of many fabrics to decline in recent months.
David Link, chief economist for the American Textile Manufacturers Institute, said that more than twice as many
plants had closed in 2001 as in any previous year. Even Malden Mills, the well-known maker of Polartec fleece, is
flirting with bankruptcy.
In recent weeks, expectations have shifted as well. Next year, consumers, on average, think inflation will be only
0.4 percent, according to a survey released last week by the University of Michigan. That is the lowest expectation
since the 1950's.
"It's stunning," said Richard T. Curtin, the university's director of consumer surveys.
If those expectations continue to decline, they will aggravate fears of a deflationary spiral, in which people begin to
save money because they are worried about layoffs, salary cuts and debt payments and because they expect the
prices of many products to fall in the months ahead.
But economists said the recession would have to deepen significantly, and perhaps drag on for years, before
deflation became a genuine threat.
"I'm not worried we're going to have a Great Depression," Olivier Blanchard, an economist at the Massachusetts
Institute of Technology, said. "And if we don't have a Great Depression, we're not going to have deflation."
Analysts note the prices for many goods and services are still increasing. Supermarket and restaurant food,
residential rent and health care have all become more expensive in each of the last three months, according to
government statistics.
The economy should also benefit from the lack of the kind of real estate bubble that hampered the United States in
the 1980's and Japan throughout the 1990's. Although vacancy rates for commercial office space have spiked —
sending rents lower than they were 12 months ago for the first time since 1993 — they are unlikely to approach the
levels they reached in the early 90's, according to Torto Wheaton Research.
A broad fall in real estate prices creates acute problems for many people and businesses because they must continue
to meet the payments on their mortgages, even as their investments lose value.
But perhaps the strongest sign that deflation remains unlikely, analysts say, is consumers' predictions about how
long inflation will remain completely absent. Over the next five years, according to the Michigan survey, consumers
expect prices to rise by an average of 2.8 percent a year.
"Hardly anyone is concerned about rising prices," Mr. Curtin said. "But even fewer people think it's better to wait to
buy."
Copyright 2001 The New York Times Company |
