Deflation in Southern Europe: Curse or Blessing? How Should the ECB React?

The trend in prices in the euro area has been declining for over a year. In view of the low inflation rate, there is talk of a possible slide into deflation. How great is this danger and how should the ECB react? According to Alfons J. Weichenrieder, Goethe-University of Frankfurt, the more probable scenario in forthcoming months is so-called “lowflation” – too little inflation – rather than deflation. However, even lowflation poses problems. The pressing need for structural adjustment in most euro countries could only stand to benefit from a higher inflation rate. In the past differences in inflation were too small to offset differences in competitiveness. Adalbert Winkler, Frankfurt School of Finance & Management, sees the inflation differential in the euro area as an instrument for adjustment. Deflation in South Europe is only a “curse” if the euro area does not display the degree of integration that is necessary for a successful adjustment process, or if deflation in Southern Europe is not accompanied by a corresponding increase in inflation in the core. Anja Rossen, Hamburgischen WeltWirtschaftsInstitut, believes that deflation concerns are unfounded. Although inflation rates in the euro area are low at the moment, a continued recovery in European economic activity tends to point to a rise in inflation in the mid-term. Should deflation nevertheless occur, the ECB has a series of instruments with which to fight it. In the opinion of Olaf Schlotmann, Brunswick European Law School/Ostfalia, even falling producer prices in Southern Europe cannot accelerate the mid-term economic growth that is so desperately needed there. Today’s very low inflation rates are far more likely to further undermine (state) debt sustainability in Southern Europe.