Eurozone is 'sleepwalking' into a deflation trap, warns bond fund
The eurozone is "sleepwalking" its way towards a Japanese-style deflationary trap that could last decades, the world's largest bond fund has warned.
The Pacific Investment Management Company (Pimco) said deflation posed the biggest threat to the single currency bloc in 2014.
A stubbornly strong euro together with painfully slow reforms and a "paucity of ambition" threatened to push the bloc's already low inflation rate into negative territory, Pimco claimed.
"The demographics in large parts of Europe aren't great," said Mike Amey, portfolio manager and managing director at Pimco. "Even now, success in Europe is defined by 12 per cent unemployment and a growth rate of between zero and 1 per cent. If that's success, they are at risk of slipping into deflation just because they're willing to tolerate these economic conditions."
Deflation poses a threat to economies, because if prices are falling people put off spending in anticipation of further falls. Retailers are forced to slash prices, which leads to declining profits, lower wages and people struggling to meet fixed loan repayments because of falling salaries.
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Large parts of southern Europe are already in or close to deflation, according to Eurostat. Greece has the highest deflation rate in the eurozone, at 2.9 per cent. A deep period of deflation means Greece is likely to need more debt relief.
Mr Amey said the eurozone was already half-way through a lost decade of growth, and it was "quite possible" that if the bloc were pushed into deflation, it could remain there for "decades".
"What you don't want is some countries pulling everyone else down," he said.
The eurozone's low inflation rate of 0.9 per cent, compared with respective figures of 1.2 per cent and 2.1 per cent in the US and UK, means the single currency is still an attractive investment despite sluggish growth.