by Lou Barnes
Many people today are worried that inflation will be the inevitable consequence of the Fed’s money-printing rescue of the economy, the decline of the dollar in world markets, or the extraordinary Federal deficit.
Of all of the worries that I run through in 3:00AM conversations with my ceiling, inflation is the least. Here’s why.
1. There are three basic kinds of inflation. The easiest to deal with is a temporary “cost-pushed” affair, just like the one caused ’07-’08 by the run in oil to $150, now completely reversed. Inflation in 2009 has been slightly negative. These episodes become dangerous only if they are allowed to turn into one of the other two kinds of inflation.
2. The second, much more dangerous kind is “demand-pulled” inflation, the sort that the Baby Boomers grew up with, the 20-year run from negligible in 1960 to 12% in 1980 and back to negligible in 2000 — a “wage-price spiral.” When labor demands higher income to pay higher prices, and succeeds, and prices rise more, then there is still only one solution: throw several million people out of work until demand falls and undercuts prices.
Throwing millions of people out of work is not popular among politicians. So, we leave the job to the Fed, which pretends that most recessions happen by accident rather than intentional inflation control. Then we hope the Fed gets it right (see #3, below). Internally, the Fed is still deeply embarrassed at how badly it did its job in the ’70s.
Today a powerful market force makes a wage-price spiral impossible: foreign wage competition. In the ‘60s and ‘70s, the US had no competition; today perhaps the worst problem facing our economy is wages undercut by low-wage exporters, and the off-shoring of previously high-wage jobs.
3. The third kind of inflation is a version of demand-pulled: the Weimar and Zimbabwe print-yourself-to-ruin. One simple solution: don’t do it. Insist that your central bank print only enough money and allow enough credit to maintain low inflation. Worries about today’s Fed are misplaced: it is “printing” only bank reserves, not greenbacks (if you see bales of cash appearing on street corners, then worry). We are in a most peculiar moment, in which the rate of turnover of money has collapsed (“velocity” has crashed with credit), and it is the Fed’s job to make up in quantity that which was lost in speed. Very easily reversed, by the way. For the moment, the Fed’s new money is locked up in a banking system that still cannot function.
4. Money-printing can get your currency in trouble, but the dollar’s value — like all currencies — is relative to other currencies. There is NO SIGN of runaway loss in dollar value. In fact, the buck is losing value only to currencies that we should hope it will. Japan is still in the grip of terrible deflation, consumer prices down 2.5% last year; the last thing we should want is to follow the yen into deflation. The same is true to a lesser degree of the euro.
5. The deficit. Unsustainable at this level, but today there is no way to inflate our way out of it. We could in the ‘70s, when we didn’t owe much. Try it today, and rates would soar. We are in an odd kind of debtors’ prison in which lenders to us insist that we must not inflate. And so, we won’t.