In mainstream economics, a low to moderate amount of inflation is considered good for the economy. To shake things up and get people thinking, I'm posting two blogs written by the Ludwig von Mises Institute that argue against the inflation theory and state that inflation is not good for the economy.
In the first article, the blogger states:
If deflation does not cause recessions (or depressions as they were known prior to World War II), what does? And why was it so prominently featured during the Great Depression? According to economists of the Austrian School of economics, recessions share the same source: artificial inflation of the money supply. The ensuing “malinvestment” caused by synthetically lowered interest rates is revealed when interest rates resort to their natural level as determined by the supply and demand of savings.
I found the authors' evidence of deflation during the 19th century economic booms convincing. Similar events occurred before the 1980s economic explosion. What do you think? Is the inflation the reason for strong economic growth or the cause of economic recessions?
Great articles--especially the one debunking deflation. I think history will prove that one of the greatest mistakes western leaders made in economic policy was putting so much faith in Friedman and his philosophy of the Chicago School of Economics. Mises (the man the blog's institute is named after) and other economists and philosophers have thoroughly debunked much of his "scientific" monetary economics, yet they still reign supreme.
ReplyDeleteOne thing the article failed to mention is how utterly disastrous the monetary focus has been on developing countries (probably left out because that would require admitting inflation is *acceptable* in some phases of economic development). Many developing countries have been slowed in growth as the result of developed economic policies being applied (often aggressively) to nascent economies, this is especially true in terms of "inflation targeting" practices that these articles are critical of.
Great points Rasheed, especially the point about how people still are so attached to the Chicago School way of doing economics. What's dangerous about this kind of Austrian, market fundamentalist way of doing economics is that there is a measure of truth in it. The idea that markets, when left alone, can regulate themselves is partially true, but in reality, the magic of the invisible hand doesn't always happen because of market imperfections, lack of factor mobility, short run disequilibriums in supply and demand, and much more. The discipline of economics has to be more expansive to be able to accommodate these complex realities, and classical theory should only be used to model very general, long run economic behavior.
ReplyDeleteAs Keynes would say, "Iin the long run this is probably true. But this long run is a misleading guide to our own affairs. For, in the long run we are all dead. Economists set themselves too easy, too useless a task, if in tempestuous seas they can only tell us that when the storm is long past the ocean is flat again."
Consider the issue of what the proper monetary policy is during times like these, which is the subject of this thread.
The first article says, "Now unmoored from any gold standard constraints and burdened with massive government debt, in any possible scenario pitting the spectre of deflation against the ravages of inflation, the biases and phobias of central bankers will choose the latter. This choice is as inevitable as it will be devastating."
First of all, we don't have any inflation at all (currently around 1%) and we are unlikely to experience inflation in the foreseeable future for reasons I will discuss later. Second, the real damage of not having expansionary monetary policy (especially immediately after the crisis) is far greater than the "damage" that inflation would cause, which, as aforementioned, we're not anywhere close to having.
The second article says, "monetary pumping will only deepen economic impoverishment by allowing the emergence of new bubble activities and by the strengthening of existing bubble activities."
I could not disagree with this statement more, given that we've already had a massive real life experiment with austerity and supposed monetary and fiscal responsibility called Europe, which has ended up in a colossal failure. Also, where specifically are these "bubble activities" happening? What is his evidence? A mere rise in the price level is not equivalent to a bubble.
Finally, I’ll expound on why we need expansionary monetary policy now. After the financial crisis, when toxic assets bought with borrowed money collapsed, the U.S. entered a long, stagnating period of deleveraging. Even when money was pumped into the system, it never resulted in inflation because most of the money was just used to pay down debt. Also, when all the banks are deleveraging at the same time, we need expansionary monetary and fiscal policy because there is a shortage of spending which contracts the economy.
For more information of this topic, please watch the video below. In it, Nomura Research Institute's Richard Koo talks about how the current "balance sheet recession" is different from traditional recessions.
https://www.youtube.com/watch?v=HaNxAzLKegU