- The Washington Times - Tuesday, September 22, 2009

Brushing aside statistics that show an annual inflation rate of less than zero, investors already are selling off dollars and driving up the price of gold in anticipation of a surge in prices as soon as the economy recovers from its deep recession.

Many economists think deflation is still a greater worry, but the fear of inflation has prompted a reprise of last year’s speculative interest in oil and other commodities, which this decade have proved to be good hedges against inflation. That, in turn, can be a self-fulfilling strategy, as pouring money into commodities drives up prices.

Energy prices rose sharply this spring and summer, driven by the revived speculative interest and expectations of a global recovery, but recently have leveled off to about $70 a barrel. The jump in gasoline and other energy prices caused the annualized rate of inflation in the past three months to surge to 4.4 percent, although prices overall remain down from year-ago levels.

Raymond J. Keating, chief economist for the Small Business & Entrepreneurship Council, cited the energy- related surge as reason to worry about inflation. “That’s pretty darn hot,” he said. “Even with an underperforming economic recovery, high inflation can in no way be ruled out.”

But Goldman Sachs investment strategist Abby Joseph Cohen says such worries are “spectacularly premature.”

Economists point out that outside the energy sector, most prices are still deflating, which is usual during a recession. As unemployment rises, consumers throttle back on spending and businesses seek to hold down prices in order to maintain sales and market share.

The price slashing in the past year was the most severe since World War II, reducing inflation from an annual rate of nearly 6 percent a year ago to minus 2.1 percent in the year ended in July — the lowest in 50 years. The big drop in prices mostly mirrored the plunge in oil and other commodity prices after a run-up to record levels last year.

“Core” inflation — excluding energy and food prices — has remained low and steady at about 1.5 percent — well within the Federal Reserve’s target range of 1 percent to 2 percent. Some economists say nonenergy inflation could drop below 1 percent in coming months as unemployment continues to rise.

Labor costs — the biggest expense for most businesses — are declining, leaving room for further price cuts.

“Given the depth of the recession, it will take years to get back to full employment, and deflation rather than inflation seems to be the greater threat,” said David Kelly, chief market strategist at JPMorgan Funds. Economists generally agree that a decline of core inflation below 1 percent would pose a threat of deflation.

John Makin, a Wall Street economist and resident scholar at the American Enterprise Institute for Public Policy Research, said the risk of deflation is still higher than inflation but that “recent steps by the Federal Reserve to preempt deflation have — ironically and unexpectedly — prompted a surge in inflation fears both inside the United States and abroad.”

He said investors’ preoccupation with inflation is understandable in light of the economic traumas and extreme market conditions of the past year.

“It’s crazy, but real,” Mr. Makin said. “Oscillations between fears of inflation and deflation in post-bubble periods are not unusual.”

The principal reason for inflation fears is that central banks in developed nations have accelerated the printing presses in their efforts to boost economic activity.

While the massive influx of dollars helped bring the United States to the point of recovery this summer, it may have sown the seeds for a raging bout of inflation in coming months, the price hawks say.

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