Inflation Returns!

Free market economists debate the prospects, fears, and even hopes for rising prices in post-crises America

Katherine Mangu-Ward, Peter Schiff, Jeffrey Rogers Hummel, Scott Sumner, Randall Parker, James Grant, Steven Gjerstad, Vernon Smith & Donald Luskin from the October 2009 issue

Since the financial crisis hit the country in September 2008, the White House, Congress, and Federal Reserve have responded with a combination of bailouts, federal spending, and an expansion of the money supply. Meanwhile, many free market thinkers have been warning of a wealth-sapping malady last seen in the U.S. more than a quarter century ago: It's a word that strikes fear in the hearts of survivors of the 1970s, elicits shrugs from the young voters who helped elect Barack Obama president, and (as we'll see) provokes fierce debate among even the most libertarian economists.

After decades of relative confidence that the price of milk would be more or less the same today as it was yesterday and last year, Americans are once again wondering whether to keep what money they have in mattresses, gold bars, or banks. Has the time come to stockpile canned goods and pick up a wheelbarrow for transporting currency, or should we be afraid of the opposite—a prolonged contraction that causes prices to crash?

In mid-July, inflation seers got their first juicy slice of supporting data when June wholesale prices jumped 1.8 percent, the sharpest rise in two years and twice the increase most analysts expected. Gold prices surged on the news to nearly $940 an ounce. Just before those figures were released, reason asked eight free market economists to assess the short-, medium-, and long-term prospects for inflation and to say what, if anything, can or should be done about it.—Katherine Mangu-Ward

Inflation Is Already Here; Next Come Rising Prices
Peter Schiff

Despite economists' efforts to obscure inflation in a tangle of jargon, it is an extremely simple phenomenon. Almost every dictionary defines inflation as an expansion of the money supply, not rising prices.Although more money may not immediately translate into rising prices, over time the correlation is extremely reliable.

Inflation has always been a means for governments to raise revenues without taxation. When gold was the only accepted currency, governments inflated through debasement of coins, surreptitiously blending base metals into gold. By melting down one real coin to make two alloyed coins, money could be "created" with little effort. Nice trick. But eventually consumers caught on that their coins were bogus. Their reaction was often violent.

Paper money largely solved this problem by allowing governments to print money, or extend credit, at will. And thanks to the overly complex Rube Goldberg explanations of inflation devised by academics, such as "the wage-price spiral," "demand pull," and "cost push," governments can
inflate without admitting culpability for rising prices. The Federal Reserve's monetary base statistics show that in the last year the money in circulation has increased far faster than at any other point in American history. Thus, by the dictionary definition, we have inflation. But prices
have been relatively stable because downward recessionary pressures are currently counterbalancing the upward pressures of the expanded money supply.

The new money has been largely parked in financial institutions. Thanks to government prodding and aggressive stimuli, it will soon be showered on the economy at large.When the tide rolls in, there will be more money chasing fewer goods. (Recessions reduce the supply of things.) The result: higher prices.

The government clings to the fantasy that it will be able to "mop up" this excess liquidity before the business end of inflation kicks in, effectively taking money back out of circulation. Good luck with that. Recent history clearly shows that the authorities have no political will to dispense tough medicine."Removing liquidity"would require either much higher interest rates or a severe curtailment of credit. But politicians believe that credit is the "lifeblood" of our economy. President Barack Obama himself has said so. If the Fed was unwilling to raise interest rates substantially in the middle years of this decade, when the economy seemed healthy, how can we expect it to do so now?

Peter Schiff ([e-mail]) is president of Euro Pacific Capital and author of Crash Proof: How to Profit From the Coming Economic Collapse (Wiley).

Why Forecasts Are All Over the Map
Jeffrey Rogers Hummel

Under normal circumstances, a massive and sudden monetary explosion-like the one initiated by the Federal Reserve after September 18, 2008, which took us from a monetary base of $850 billion to $1.7 trillion in three months-would bring skyrocketing inflation. But these are not normal cir-cumstances.A high demand for liquidity, mostly on the part of banks, has thus far prevented inflation from taking off. In fact, almost all of that increase was concentrated in bank reserves, which during that short period mushroomed by an incredible factor of 13.

On one hand, the Fed's expansion of the base encouraged banks to make loans, thereby increasing the amount of checkbook money: an inflationary step. On the other hand, it simultaneously paid banks to hold more reserves: a deflationary step.Is it any wonder that economists' forecasts have been all over the map? Ben Bernanke, in what must stand as the most egregious example of central planning hubris on the part of any Fed chairman since the institution's founding, seems convinced that fine adjustments to these two controls will allow him to manage the price level perfectly.

Buried within the bailout bill of October 3, 2008, that set up the Troubled Asset Relief Program (TARP) was a provision permitting the Fed to pay interest on bank reserves. This seemingly technical change not only gives banks an incentive to hold reserves rather than make loans; it also essentially converts reserves into more government debt. Fiat money traditionally pays no interest and therefore allows the government to purchase real resources without incurring any future tax liability. Economists refer to this revenue from creating money as seigniorage. Federal Reserve notes will continue to earn no interest.But now the seigniorage that government gains from creating bank reserves will be much reduced, if not entirely eliminated.

Outside of America's two hyperinflations (during the American Revolution and under the Confederacy during the Civil War), seigniorage peaked during World War II, to nearly a quarter of the war's cost,or about 12 percent of GDP. By the Great Inflation of the 1970s, financial innovations and market sophistication had managed to reduce seigniorage to only 2 percent of federal revenue, which translates into less than half a percent of GDP. Now with the Fed having to divert potential government revenue to pay interest on base money held by banks,seigniorage has virtually been eliminated as a source of future funding.And this constraint will become tighter as people replace the use of currency with bank debit cards and other forms of electronic fund transfers.

Comments

|9.22.09 @ 3:11PM|#

Flat Tax - bring it!

"The effects of collectivism are inevitably and undeniably destructive."
F.A. Hayek

|9.22.09 @ 3:24PM|#

Inflation is one of the stealthiest taxes. A more libertarian government would have the currency pegged to something real it can be redeemed for, or at least have laws limiting the average inflation rate to 0%.

|9.22.09 @ 3:28PM|#

Amen, Profeed! Ban the Fed and the IRS! Re-establish the gold standard! Initiate the flat tax! Invest in gold!

Michael Ejercito|9.22.09 @ 3:30PM|#

I favor a return to the gold standard.

Just Passing Through|9.22.09 @ 3:31PM|#

Flat tax?! How about no tax at all.

|9.22.09 @ 4:00PM|#

What the hell is with that guy's hair. Use some conditioner for the love of God.

|9.22.09 @ 4:05PM|#

A government gold standard ain't much better than a government fiat system. A gold standard isn't proof against inflation, unless you went to 100% reserves. But we don't have enough gold in the world to cover the monetary supply, so you can't do it without extreme hyper-deflation.

Free banking is the answer. Get the government OUT of banking, and let a system emerge and evolve from the monetary choices of individuals. Let the market decide, not some anti-social Rothbardian sitting in his mother's basement who wants to use the state to impose his ideal of anarchy.

Sam Grove|9.22.09 @ 4:07PM|#

How about just freeing us from politically induced standards?

Such standards are illusory referents, as their value is as subject to market forces as any commodity.

josey|9.22.09 @ 4:09PM|#

"A more libertarian government would have the currency pegged to something real..."

And a real libertarian government would not presume the right to enforce an absolute monopoly on currency. I don't trust the government to dictate the price of my bread, so why should I trust it to dictate the value of my money?

|9.22.09 @ 4:10PM|#

Of course a flat tax.
With a round number.
ZERO

|9.22.09 @ 4:12PM|#

Anybody who doesn't think we've already baked hyper-inflation into our currency is economically clueless.

Chinese Trade Minister|9.22.09 @ 4:32PM|#

A flat tax too?! Can't you Americans get by just with tire tarriffs?

Chinese Trade Minister|9.22.09 @ 4:33PM|#

Never mind. My deputy just explained it to me: "inflation" and "flat". Very funny.

Kevin|9.22.09 @ 5:07PM|#

I think Sting sang it best:

"History... will teach us nothing."

Or maybe it was Ambrose Bierce who said something about children trying to spell "GOD" with all the wrong blocks.

Anywhoo... no one has a freaking clue. Someone will be right, and it will be of no more value than praising a broken watch for being right twice a day.

Which is all the more reason to get the government out of trying to regulate the economy.

|9.22.09 @ 5:24PM|#

John Maudlin has done a very excellent series on articles on the inflation/deflation debate

http://www.2000wave.com/gateway.asp

Short answer, you'd better hope they can cause inflation, because deflation would have been worse.

Longer term though, things will have to change. Debts will have to shrink, and savings will have to go up.

It's going to be a very tough transition.

|9.22.09 @ 5:36PM|#

Inflation?

LMFAO at retards like Peter Schit.

We'll be lucky if we don't see 20% more DEFLATION.

Milk, dairy, natural gas and other consumable commodities are at 10-yr lows.

The "inflation" town criers are basically opportunistic goldbugs.

Abby Martin|9.22.09 @ 5:39PM|#

We just created an organization to discuss just this! Please visit us at

http://www.thefreeenterprisenation.org

</|9.22.09 @ 5:49PM|#

Following Luskin and Schiff's investment advice is a pretty fast way to go broke.

</|9.22.09 @ 5:50PM|#

Especially Luskin

|9.22.09 @ 6:17PM|#

Milk, dairy, natural gas and other consumable commodities are at 10-yr lows.

Yet, oddly, with very few exceptions, the rest of the commodities complex are heading up, with some metals (particularly the "bellwether" copper) up pretty sharply.

There's a reason why anyone with big dollar reserves is trading them for commodities, especially fuel and metals, as fast as they can. Long-term, the dollar is wrecked.

Rice Bingham|9.22.09 @ 6:26PM|#

How long is 'long term'?

Sean W. Malone|9.22.09 @ 6:37PM|#

Shrike... I would say that I hope you put your money where your mouth is, and prepare for severe deflation like Krugman is telling you to....... But even idiots deserve some mercy, I suppose.

In other news silver is up nearly $4 an oz since I bought in... Hooray for that.

squarooticus|9.22.09 @ 6:48PM|#

Brandybuck:

so you can't do it without extreme hyper-deflation.

You mean hyper-*in*flation, right? Because each $ would suddenly be worth a lot fewer grams of gold than it is now.

not some anti-social Rothbardian sitting in his mother's basement who wants to use the state to impose his ideal of anarchy.

Interesting you should put it this way since Rothbard was a proponent of free banking, not of a gold standard.

Sean W. Malone|9.22.09 @ 7:06PM|#

"Brandybuck:

so you can't do it without extreme hyper-deflation.

You mean hyper-*in*flation, right? Because each $ would suddenly be worth a lot fewer grams of gold than it is now."


No, he had it right... Right now gold is "pegged" at $1000 an oz, let's say. But if we returned to a gold standard now, and divided the supply of money by the US' supply of gold, there would be many times more of the amount of dollars per oz. of gold available - much much greater than $1000 per oz.

A quick googling says the US reserve is 282,191,696 ounces of gold (8,000 tonnes). So if we set a gold standard again, based on the current M2 money supply - $8.2977 Trillion - that would be about $29,404.47 per Ounce of Gold.

I suppose it depends on how you look at it, but we're talking about a massive "inflation" of the price in gold.

Sean W. Malone|9.22.09 @ 7:07PM|#

oh... oi vey... sorry Brandybuck, I think I misread what you'd said. Anyway... There's some fun math just the same.

Sean W. Malone|9.22.09 @ 7:13PM|#

The thing that actually really concerns me is that there's probably no way out of the current financial mess the US is in. Scott Summer takes this Friedman/Schwartz view, which was - as far as I can tell - pretty wrong on the Great Depression in terms of discovering the ultimate causes, and is basically towing the Bernanke line....... It's shit like that that makes me disillusioned with the Chicago School.

Anyway, I've been thinking about it all a lot lately, and like Peter Schiff, I just don't see how we're going to escape significant inflation but worse I don't see how it's going to be politically viable to do anything about the debt of the unfunded liabilities.

To some extent, the only thing I can think to do is just bail and go move somewhere else, renounce or evade future US taxes and try to raise a family someplace that doesn't think my life belongs to the overlords. There aren't many really appealing options on the table right now.

Brian Defferding|9.22.09 @ 8:08PM|#

"Following Luskin and Schiff's investment advice is a pretty fast way to go broke."

Gold and other precious metals are at an all-time high right now. Mining stocks are profiting well. Anyone who took Schiff's advice is probably doing great. He is a goldbug, but he's not a goldbug for no reason whatsoever; I'm pretty sure the deficit spending and quantitative easing of the Federal Reserve might have a lot to do with it.

mark|9.22.09 @ 8:20PM|#

To some extent, the only thing I can think to do is just bail and go move somewhere else, renounce or evade future US taxes and try to raise a family someplace that doesn't think my life belongs to the overlords. There aren't many really appealing options on the table right now.

I'm going to reiterate this after they pass ObamaCare, but basically This Is America and it's the Socialists who will have to leave, not me. They can leech off me all they want and I will keep working harder. I will not shug, I will fight to keep this country as free as it can be. There are so many more battles to be fought. Debating is infinitely preferable to despairing. Hold onto your wealth as best you can, but take comfort in the knowledge that wealth is not everything, and in fact you can't take it with you. The journey is just as important as the destination.

How's that for cliche-based wisdom? Hope it helps, nonetheless.

Frank|9.22.09 @ 9:06PM|#

1) How can an economist who supports a central planning authority to set the price of money be considered a "free-market" economist? Or is Reason using Bush's definition?

2) Why is Schiff the only one that makes a distinction between inflation and price inflation?

3) I don't know all of the details of Schiff's investments but I know from reading one of his books that his strategy is very similar to mine and I have been doing very well. I think I may take advantage of volatility more than he does (I don't know for sure), selling into strength and buying the dips but it would be hard for me to believe Schiff's clients have lost money if they didn't liquidate their positions late last year.

...Rothbardian sitting in his mother's basement who wants to use the state to impose his ideal of anarchy.

Huh?

Obama|9.22.09 @ 9:07PM|#

They can leech off me all they want and I will keep working harder.

Mark, stop by for a beer anytime.

Sean W. Malone|9.22.09 @ 9:08PM|#

I appreciate the sentiment Mark, and I share it to a large degree, but I don't see how it's smart or moral to accept being leeched from. It's not about money, but about the quality of life I want to provide for myself and my potential family.

I'm still early in this metaphorical game... I'm 26. I have a lot of life, a lot of social security & FICA, a lot of income tax, a lot of lowered productivity years ahead of me if I stick around and watch this country implode. But worse, I think it's actually going to be a lot more painful than anyone's prepared to acknowledge.

I'm not sure how to solve that problem...

mark|9.22.09 @ 9:31PM|#

I'm 27, so apparently both of us have a lot left to learn. After this whole health care battle is over, I plan on studying philosophy and history. They assigned me Thucydides in college but I never read it; instead I read Ayn Rand. It had some kind of value for me then, but really I would have rather read something more meaningful, and more useful, like the Tao Te Ching.

I hope to be ready for any possible implosion, but like I said before, This Is America, and I just don't see this country going down the proverbial tubes. Things are going to get worse before they get better, but history shows that they always get better.

Frankly I would not be so invested in debating politics if I wasn't paying FICA. Now I can, with a straight face, complain that my money is going to GM to buy state-sponsored propaganda during Monday Night Football. And I can find plenty of other people who can appreciate the sentiment. Taxes keep the government accountable, ultimately (which is why I hate inflation, it's so goddamn sneaky).

Sean W. Malone|9.23.09 @ 2:27AM|#

Empires rise and Empires fall... Worth checking out and reading upon antiquities historian, John Lewis.

Ebeneezer Scrooge|9.23.09 @ 4:11AM|#

Anyway, I've been thinking about it all a lot lately, and like Peter Schiff, I just don't see how we're going to escape significant inflation

In the long run we can't. In spite of what anyone in the interviews may have said, sooner or later the cat has to get out of the bag. Unless the whole system manages to collapse first, in which case kitty-kitty is muosh.

but worse I don't see how it's going to be politically viable to do anything about the debt of the unfunded liabilities.

The only thing that will be politically viable is adding to the unfunded liabilities. You remember how California got away with that one.


There is nowhere else to go. I've got (ahem) a few years on you and have been looking for the escape hatch longer than you have. Give it up, you're here and this is it. When it's all said and done, people from third world countries would still rather be here, given the chance. Meanwhile, Europe has decided that its own success just isn't worth anything after all and they wish they could just go back to being a third world rat hole. Which Europe is in the process of doing, and the US seems intent on following a few steps behind.


My reading of history: the US has survived in the long run only because, every time the government comes up with a way to slam the economy, the economy has managed to grow even faster.

It's always been the actual way out, and this time is no different. Maybe we'll invent nano-fortified, nuclear powered computer-brained cyborg worker beasts that you can grow bazillions of overnight in test tubes, and they'll just take care of us because that's what they were grown for and besides their heads are full of software.

Or maybe we'll come up with something even better than that.

|9.23.09 @ 8:11AM|#

Donald Luskin? Do you guys have no self respect at all? Why not just grab a random crack whore and see what she thinks? Luskin is a complete moron.

mark|9.23.09 @ 10:58AM|#

That Ayn Rand comment I made was a bit of a cheap shot. Harry Browne said her books were important to him, so I can't just dismiss her out of hand. But it's important to realize that she did not have the Answer to life, only one of many ways to look at it.

|9.23.09 @ 11:19AM|#

Federal Reserve Notes will keep their value as long as the government accepts them as payment for taxes. If it stopped accepting them, and we had to pay our taxes in beaver pelts or other commodities, then the argument our currency's lack of "backing" would start to make some sense.

|9.23.09 @ 12:18PM|#

@ Scrooge

The politically viable thing might be to issue more debt, but the bond market won't/can't take that much. There's jut no way the rest of the world is going to finance trillion dollar deficits each year for the next 50 years.

Michael Ejercito|9.23.09 @ 9:52PM|#

But we don't have enough gold in the world to cover the monetary supply, so you can't do it without extreme hyper-deflation.

What is the downside of hyperdeflation?

Frank|9.24.09 @ 12:11AM|#

"Dr. Deflation" (Martin Weiss) Changes His Mind After 27+ Years

Dr. Martin Weiss has reversed course. He now thinks price inflation lies ahead.

This is the equivalent of Steve Jobs announcing: "The future of computing over the next decade is with Microsoft Windows 7."

I have waited for this for 27 years. Better late than never.

Source

|9.24.09 @ 7:27AM|#

What I got out of this article is that even well respected economists don't have a fucking clue what's going to happen. These guys were all across the map with their predictions, and had varying explanations for their predictions. What bothers my libertarian sensibilities is that the more Keyensian/Krugman-minded economists seem to have much more detailed explanations for their analyses than the free-market-minded ones do. And everyone one knows the world economy is complicated as hell. I would like my beloved free-market economists to show more details than the obligatory "spending=inflation, Fed" rhetoric. I'm free market to the bone, and it's discouraging to see our ideas get hammered.

Rodger Malcolm Mitchell|9.26.09 @ 11:34AM|#

Peter Schiff says: "Almost every dictionary defines inflation as an expansion of the money supply, not rising prices." Untrue. Inflation is the loss of money's value compared with the value of goods and services."

The value of money is based on supply and demand. Increasing the supply does not cause inflation if the demand (interest rates) increases proportionately.

Peter Schiff says, "Although more money may not immediately translate into rising prices, over time the correlation is extremely reliable." Untrue. Look at a graph of inflation vs. M3 growth and you will see there is no historical relationship between M3 growth and inflation. The reason: Money supply is only half the supply/demand story.

When the Fed gets a whiff of inflation it raises interest rates, which by increasing the demand for money, increases the value of money (i.e. prevent/cure inflation).

You can read more about this at: http://rodgermmitchell.wordpress.com/2009/09/09/46/ and http://rodgermmitchell.wordpress.com/2009/09/24/is-inflation-too-much-money-chasing-too-few-goods/

Rodger Malcolm Mitchell

|10.4.09 @ 12:11PM|#

As I read all the bloviating in these essays, my eyes crossed in boredom. I did read all of them, but could have missed what I was primarily looking for (I could not bear to read them a second time).

While realizing that these writers were trying to be factual, I was hoping to find some reference to the moral issue of the Federal Reserve manipulating what I consider my private property: my money. Why does the libertarian press not discuss the morality of money more often? Would this not put more pressure on politicians and their pet economists to discuss moral issues? I don't expect this kind of discussion from Fox or MSNBC but I wish they would. I wish everyone would, including Reason.