The Talk of Deflation is Easily Deflated

                   Economists at First Chicago NBD Corp. recently tried to cook up a
                   recipe for deflation -- that is, falling U.S. prices -- in 1998. It wasn't easy.
                   First, the Chicago number-crunchers had to hypothetically throw the
                   economy into an immediate, severe recession. Then, they had to cut oil
                   prices to $14 a barrel from about $16.50 now and raise the value of the
                   dollar, weighted to reflect the amount of U.S. trade with various partners,
                   by a whopping 20%.

                   Only after feeding all these gloomy forecasts into their computers could
                   they get a prediction of generally falling prices.

                   Many other economists doing similar manipulations for their companies
                   also find the chance of true deflation very low.

                   "The probability of this is extremely small," says David Berson, chief
                   economist at Federal National Mortgage Association, the
                   government-sponsored company that is the nation's biggest mortgage
                   investor.

                   Yet the issue of deflation isn't fading away. On the contrary, talk of
                   deflation has grown over the past six months. One investment
                   house pored over a recent speech by Federal Reserve Chairman
                   Alan Greenspan and noted that he mentioned deflation 18 times,
                   even though Mr. Greenspan himself said he saw little likelihood
                   that overall prices would fall anytime soon.

                   Despite all the talk about deflation, the definition of it remains murky. Amid
                   growing overcapacity and rising imports from Asia, many goods prices are
                   falling. But that isn't deflation, because overall prices are still rising,
                   especially for most services, from haircuts to school tuitions to cable-TV
                   bills. Services -- few of which face global competition -- make up nearly
                   60% of the consumer price index and are still climbing. Added together,
                   prices of goods and services rose 1.7% in the U.S. last year.

                   This year, overall prices probably will edge up again, albeit slowly. "I
                   could well see core-goods prices being pulled into negative territory," says
                   David Orr, chief capital-markets economist at First Union Corp.,
                   Charlotte, N.C. Yet he expects service-sector inflation of at least 2%,
                   keeping the overall number climbing.

                   Another type of deflation is asset deflation. To some, this is more
                   important than a small drop in, say, auto prices. Especially worrisome is
                   the prospect of rapid declines in prices of stocks or real estate. It's this
                   type of deflation that Mr. Greenspan focused on earlier this month.

                   Asset deflation has potentially ruinous effects partly because of the
                   psychological impact on consumers. If enough of their portfolio wealth
                   were destroyed, they would rein in their spending, possibly triggering a
                   recession. Asset deflation would also harm the banks; securities and real
                   estate are important sources of collateral in most banking systems. If their
                   values plummet, the economy's credit structure is impaired.

                   "Deflation gets ominous and threatening when it happens in the
                   assets widely used as collateral for loans," says Mr. Orr.

                   In Japan, for example, stock and real-estate prices collapsed along with
                   the 1980s bubble economy. As a result, Japanese banks are burdened
                   with huge amounts of nonperforming loans. Meanwhile, the world's
                   second-largest economy has suffered through seven years of substandard
                   credit growth, on-again off-again recession, and a whiff of true price
                   deflation.

                   Although no one knows where U.S. stock prices are heading, the chance
                   of an imminent implosion is remote in the other big category of U.S. assets,
                   real estate. In commercial real estate, the boom-and-bust cycle of the
                   1980s left many developers and their bankers extremely wary. Few U.S.
                   markets are overbuilt today, and only recently have some aggressive
                   builders begun projects on a speculative basis, without prior commitments
                   from buyers or tenants.

                   The housing market also is strengthening steadily in most of the country.
                   As Mr. Berson of Fannie Mae notes, prices of existing homes were rising
                   at year end at an annual rate of almost 6%. Fueling the surge have been
                   strong gains in income and consumer confidence, low inventories of unsold
                   housing, and declining interest rates on home mortgages. The low
                   mortgage rates help offset rising prices. Overall, the "shelter" component of
                   the U.S. inflation index is climbing by slightly less than 3%.

                   For U.S. consumers, ironically, the Asian crisis has been beneficial,
                   reducing some goods prices and making loans cheaper.

                   As the crisis has unfolded, more of the world's capital has gravitated to the
                   perceived "safe haven" of U.S. fixed-income securities. Bond prices have
                   rallied, with a corresponding drop in bond yields, which are used as
                   benchmarks in setting interest rates on many mortgage loans. And the
                   lower rates have sparked a new wave of refinancing, freeing up more
                   money for American consumers to save or spend.

                   Not much of a recipe for deflation.

                   -- BERNARD WYSOCKI JR.