The Deflation Battle Begins.

Since global economic growth has failed to pick up as hoped after the Iraq war, concern about the threat of deflation has grown markedly. The threat remains distant, but the United States has a strong interest in working with a "coalition of the willing" to combat deflation and rekindle growth--even if it means setting aside the divisions over Iraq. The key members of this coalition, in addition to the United States, are France, Germany, Japan and other large economies. And there is room for cautious optimism that they will succeed.

As yet, deflation has not taken hold in any major economy other than Japan's, but the mere threat of it has created a new sense of urgency in Europe and the United States. In much of the industrialized world unemployment is rising, business investment is sluggish. All confront the legacy of the late 1990s bubble: excess manufacturing capacity, heavy consumer and corporate debt, and downward pressure on wages and prices. Attempts to stimulate growth have yet to gain traction, but fortunately they are getting increasingly aggressive.

As the U.S. military searches for weapons of mass destruction, the economic powers are mobilizing weapons against mass deflation. The Bank of Japan has resorted to extraordinary measures, providing financial support to small and medium-sized companies. European leaders are facing down street protests against painful yet needed reforms to strengthen their economies. The Federal Reserve has suggested that it might use unconventional techniques, such as buying long-term Treasury bonds, to pre-empt deflation.

In America the spigots are wide open. Few countries have seen such a flood of liquidity since the time of Noah. Falling short-term interest rates, the perceived willingness of the Federal Reserve to keep long- term rates low, a rising stock market, recent tax cuts, lower corporate borrowing costs, improved depreciation rules and a weaker dollar should boost growth, jobs and investment. This torrent of liquidity will likely prevent deflation, but the big questions are how much money consumers burned by bubble losses will spend, rather than save, and how much companies will invest in new plants and equipment. The answers will go a long way toward determining just how robust recovery will be.

Across the Atlantic, there are signs of hope, too. Yes, a stronger euro, slower world trade, labor-market rigidities, high wages and benefit costs and reams of regulations are hurting exports, employment and investment. But long-term interest rates in Europe have fallen dramatically. The European Central Bank recently cut short-term rates by half a percentage point. Although it appears to be less concerned about ...