Wednesday, January 17, 2007

My problem with inflation

Kevin Baker of The Smallest Minority asked this question about my post on the effects of inflation on the value of a dollar:

Now, compare what you earn today vs. what you'd have earned back then.


What's your problem?

Fair question.

As I understand Kevin's point, it could be stated as "Sure, a dollar at the store in 2007 doesn't buy as much as it did in 1970. So what? The dollars you're paid in have inflated at that same rate as well, so you have more dollars to spend." (Kevin, if that isn't a fair restatement, feel free to correct me.)

I'm unconvinced that this is true. I'm an Austrian (Ludwig von Mises subspecies) in terms of my economics views. Mostly, anyway.

(Warning: Gross oversimplifications follow.)

From where I stand, inflation is caused by government meddling with the money supply. When money was either coined from, or backed by, some tangible form of value (historically in the West, precious metals), inflation could only be caused by an increase in the money supply, and that meant mining more precious metals. The supply of precious metals being finite (and relatively hard to extract, historically), inflation occurred, but very, very slowly. (Except for a few periods, the best known being the one after the discovery of the New World, where Spain's looting of gold and silver caused rampant inflation in Europe for around a century--a period called The Great Inflation.) When governments decoupled monetary value from a set standard and began increasing the monetary supply by simply printing more money, inflation took on a life of its own. More money chased the available supply of goods, resulting in higher prices as the holders of those goods sought the highest possible prices.

Also, inflation effects only prices. Wages grow for other reasons, such as increased worker productivity, competition for workers with particular (rare) skill sets, shortages of available labor and interestingly enough, worker expectations of inflation.

Additionally, inflation has other, more insidious effects. As Hans Sennholz points out in "The Many Evils of Inflation":

Inflation covertly transfers income and wealth from all creditors to all debtors. It dispossessed present creditors of nine-tenths of their 1980 savings and enriched debtors by the same amount. The dollar savings accumulated since then have shrunk at lesser rates but are fading away notwithstanding.

No wonder, many victims readily conclude that thrift and self-reliance are useless and even injurious and that spending and debt are preferable by far. They may join the multitudes of spenders who prefer to consume today and pay tomorrow, and they may call on government demanding compensation, aid, and care in many forms. Surely, the hurt and harm inflicted by inflation are a mighty driving force for government programs and benefits.

In other words, inflation steals from those who save, benefits those in debt, and drives the population's insatiable desire for more and more government programs to offset its effects.

Additionally, inflation can lead to erroneous decisions that fuel our "boom and bust" economy. The most recent incarnation in the US was the "tech bubble", which burst a few years ago, taking with it a huge amount of personal savings and jobs.

You can also make an argument (as Sennholz has) that inflation has fueled US government deficit spending, rampant consumer spending and the resulting outflow of American capital to countries (notably China and a number of oil-producing nations) who are unfriendly to us.

So, as far as I'm concerned, inflation rates up there with gun grabbers and nanny-state supporters in my pantheon of evil. That's my problem.

(Edited 1/18/2007 0905 to correct a spelling mistake.)

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