The central bank for central banks has some advice for policymakers fretting about deflation: Don't.

In a study bound to prove controversial in the corridors of power and academia, economists at the Bank for International Settlements concluded the connection between economic growth and shrinking prices is weak.

Their number-crunching found that since World War II there were more than 100 years of short-term deflation across 38 economies studied, yet the average growth rate in those periods was higher than otherwise at 3.2 per cent versus 2.7 per cent. When inflation was more long-lasting, average growth was 2.1 per cent.

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In keeping with past warnings that the easy money now being targeted at sluggish prices risks generating financial market bubbles, the BIS found a stronger link between output growth and sliding asset prices.

In the wake of equity and property price peaks, economic expansion is about 10 percentage points lower over five years.

The research "raises questions about the prevailing view that goods and services price deflations, even if persistent, are always pernicious," said economists led by Claudio Borio, head of the BIS's monetary and economic department. "There is a case for policymakers to pay closer attention than hitherto to the financial cycle - that is, to booms and busts in asset prices."

The assumption that deflation spells economic weakness is based on the idea it reflects a slump in demand and can prompt consumers and companies to retrench, pushing prices down further, the BIS economists said.

Still, "good" deflation can be driven by supply forces such as cheaper oil or greater competition and can also spur output by increasing spending power and making export markets more competitive, they said.

Modern-day deflation fears are rooted in the outlying experience of the Great Depression era of 1929 to 1938 when average growth was 4 percentage points weaker than usual, according to the BIS report.

As for the recent experience of Japan, which is said to have suffered "lost decades" because of deflation, the BIS said on a per capita basis, economic growth actually rose from 2000 to 2013 by 10 per cent compared with 12 per cent in the US.

The findings, which echo those of a January report by Deutsche Bank AG, may prove contentious as central bankers from the euro-area to Japan step up monetary stimulus to stop their economies suffering a collapse in prices driven by declining commodity costs and soft economic growth.


The BIS, which is owned by central banks and serves as a counterparty for them, has not been shy of crossing its shareholders. After sounding the alarm on asset price excesses which helped trigger the global financial crisis of 2008, it subsequently warned against ultra-loose monetary policy.

It last year drew rebukes from central bankers including Federal Reserve Chair Janet Yellen and economists such as Nobel laureate Paul Krugman for declaring rates risked being raised "too slowly and too late" to counter asset-bubbles.

Wednesday's attempt to quell deflation worries suggests it's sticking to its guns.

"This article simply presents one small piece of additional evidence in a much bigger jigsaw puzzle," said Borio and colleagues in the written report.

- Bloomberg