Sun, Aug 16, 2015 - Page 8 News List

Has deflation betided the nation?

By Darson Chiu 邱達生

According to the government’s most recently issued statistics, the consumer price index (CPI) for last month declined by 0.66 percent on a year-on-year basis.

The drop marked the seventh consecutive month the CPI has fallen. Descending price levels could be a negative sign for business outlook. In addition, all forecasting agencies have revised downward their forecasts for Taiwan’s GDP growth this year. Has deflation really betided the economy?

In theory, deflation is a contraction of economic activities resulting in an incessant decline of prices, and is closely related to deteriorating economic conditions, such as a liable occurrence of recession and high unemployment.

Much tougher policy measures ought to be used for both deflation and its opposite, inflation.

Deflation is, in general, caused by insufficient supply of money, so it is sensible to examine the origin of deflation by looking into the central bank’s monetary aggregate M2 annual growth rates. The M2 growth rate in June this year stood at 6.53 percent, compared with 5.74 percent in June last year. By comparison, the M2 growth rate of each month this year was, by and large, higher than that of the same month last year.

Therefore, money supply is not lacking, meaning deflation should not be occurring, because, from a monetary standpoint, no major reason exists for deflation to occur.

Furthermore, deflation normally leads to increased unemployment due to sluggish business. The unemployment rate in June this year stood at 3.71 percent.

The average unemployment rate from January to June this year was at 3.68 percent, which is not only lower than the same period last year, but also the lowest reading in the past 15 years. From the government data, it is clear that the recovery of the job market has been on the right track.

For that reason, the result of deflation has not been present, either.

Since neither cause nor effect of deflation has occurred, what has been driving down price levels? Fingers are pointing at crude oil prices, which have plunged since last year. In terms of West Texas Intermediate (WTI), the average oil price per barrel in June last year was US$106.07. However, it was priced at about US$45.25 per barrel earlier this month, indicating a 57 percent price plummet over 14 months.

Actually, the crude oil price went back up to about US$60 per barrel during the second quarter of this year. Many believed that price levels were about to mount at that time, but existing and new causes have dragged oil prices back down.

The most critical cause of dropping oil prices is a stronger US dollar. US Federal Reserve Chair Janet Yellen has already announced that an interest-rate hike is likely to take place sometime this year.

However, a recent weakening of China’s currency could delay the Fed’s actions due to potential perturbing of expanding spread, but a rate hike is still expected to occur later this year.

As a result, the US dollar has been continuously appreciating. All commodities, including crude oil, are US dollar-denominated. A stronger US dollar has caused oil prices to fall. A slowdown of China’s economy and oversupply of oil from OPEC member nations are also contributors to lower prices.

Despite output not being significantly reduced so far this year, a declining value makes economic readings look extremely awful.

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