With governments around the world stacking stimulus package over stimulus package and printing zillions to spend their way out of the last crisis, a deflationary scenario would be a miracle. However, deflation is the new new thing. Newspapers, magazines and all kinds of economic experts cry out against the risk of deflation triggering a downward spiral in consumption that would drive our economy to stand still with dramatic social consequences. Both the Great Depression and the Japanese crisis of the nineties seem to confirm this threat but is deflation really so bad a thing?

Looking back to the first globalisation wave, from 1880 to 1914 deflation was the rule rather than the exception. This means that the building of the continental railway in the US, the boost in communications coming from the transatlantic telegraph and the trade increase caused by steamships all happened during a long deflation cycle. Is this how a standstill economy looks like?

The basic idea behind the deflationary threat is that falling prices negatively affect demand as consumers delay their buying decisions expecting a better deal in the future. How is it possible then that consumer electronics, a deflationary industry where falling prices follow any product launch, is one of the most dynamic areas of our economy. How come a deflationary industry is by and large the most innovative of them all?

Some mention its effect on debt as one of the worst consequences of deflation. As the value of money grows so does the value of existing debts. In fact the value of debt increases but most of this increase can be compensated with lower, or even negative, interest rates. At the end of the day, low inflation doesn’t reduce much of any debt when interest rates are at two, four or six points higher. Furthermore, it is excessive debt and the absence of any real savings backing this debt that caused this latest crisis. With deflation savings would grow, providing a healthy capital accumulation that can foster investments while avoiding the bubbly tensions we now know so well.

If growth, progress, dynamism and stability are possible in a deflationary context, how is it that deflation is the new villain in town?

Eighty years after the 1929 crash, scholars keep arguing about the roots and causes of the great Wall Street panic. Economists, however, unanimously agree on what turned the crisis into a painfully long lasting global recession. Protectionism. It was the protectionist wave that swept the world after 1929 what undermined the first globalization project, killing a win-win trade context to force each and every industrialized nation into a fight for resources that would only end with World War Two. Bringing about the end of the British empire and a long and painful division for Europe. Now, when the second globalization project has brought the world to the highest material standards ever seen, another crisis of financial origin threatens to unleash the same protectionist answer. The same protectionist mistake.

In Europe, ministers ask consumers to buy national products while, even worse, the United States Senate wants to turn protectionism into an official policy including a “buy American” clause in the latest stimulus package. An urgent cry of alert should be issued. Protectionism is the shortest way to misery. It is true that the US and many other industrialized nations have been running enormous trade deficits for years. Massive deficits that weaken their economic balance. It is then easy for some shortsighted politicians and so called economists to pretend that by buying national, by switching from imports to home manufactured product, there will be a sales boost inside their borders creating an ever growing virtuous cycle. It is almost ridiculous having to explain it but these last three centuries economies have gotten a little bit, just a little bit, more complex than that.

Advanced economies can sustain trade deficits through capital inflows. Benefit repatriations from offshore operations, foreign investment and international capital allocation. Those are some of the reasons behind Gross National Product (GNP) taking the lead as a reference indicator in front of traditional Gross Domestic Product (GDP) data. It is true that a more balanced current account is a fair objective but protectionism has a high price. Too high a price. Any serious project pretending to reduce the US trade deficit needs to be based on offering more competitive products and services both inside and outside national borders. Competitivity is the key.

Pretending that European or American consumers can benefit from buying worse products at more expensive prices is funny enough, but the real protectionist threat is a chain reaction of international retaliations and counter-retaliations that could demolish the free trading world built during the last decades. It is not realistic to pretend that Canada, the European Union or China will sit down and watch a “buy American” trend being trumpeted from the White House and Capitol Hill. Threats are already starting and should not be taken lightly.

Marc Arza
Senior Consultant
futura.cat

The Financial Times recently published its European Business Schools Rankings 2009 and Barcelona has, again, three business schools amongst the top 50. Not only IESE (#7) and ESADE (#11) but also EADA (#39) appear on the ranking, while other business schools as the French ESEC (#47) have a fully working delegation in Barcelona.

When looking for an MBA destination keep in mind that Barcelona has a lot to offer!

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