Avoiding threat of deflation

Market jitters are growing over the possibility that the Korean economy may fall into deflation, which involves a steady shrinking of overall economic activity as prices fall. When that happens, our economy will most likely go into a vicious spiral downward and we will look back longingly on the days that we even had hopes for robust growth.

The Bank of Korea announced yesterday that the producer price index (PPI) for September had fallen to 105.24, a whopping 0.3 percent drop compared to a month earlier. That’s the largest plunge since last November. When the PPI plummets, manufacturers suffer substantial reductions in revenues, even if they sell the same amount of products as before. The PPI is reflected in consumer prices later. Such a reduction in sales and subsequent drops in consumer prices would lead to reductions in workers’ incomes followed by decreased spending and investment. In a nutshell, the overall economy shrinks to the point of collapse.

Of course, it is too early to rush to the worst conclusion based on a drop in the PPI over the last two months. Also, seasonal factors like the Sept. 7-9 Chuseok holidays, which fell earlier than usual, and the decline of crude oil prices in international markets, must be taken into account. However, the sustained downward movement of the PPI since the end of 2012 raises the possibility of deflation for our struggling economy.

In fact, the Korea Economic Research Institute said Monday that our economy’s vulnerability index for deflation following the standards of the International Monetary Fund shows a pattern similar to 1992 when Japan entered its two decade-long deflationary period. Our economy is not yet in a deflation phase, but we must not let down our guard. The Bank of Korea’s Monetary Policy Committee also jumped on the bandwagon by cutting the benchmark interest rate, which suggests a deepening concern about the possibility of deflation. The team led by Deputy Prime Minister for the Economy and Finance Minister Choi Kyung-hwan has been bent on pressing ahead with expansionist macro-economic policies because it cannot rule out the possibility of deflation in the future, though its preemptive measures haven’t shown tangible results yet.

Deflation is no less a threat to our economy than chronic inflation. If we don’t prepare for it, the economy will fall into a trap of uncontrollable slowdown and depression. Since statistics show credible signs of the economy heading toward deflation, the government must be thoroughly prepared.

JoongAng Ilbo, Oct. 21, Page 34