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Argument from intimidation headline of the day

This is from that haven of supercilious argumentation, the Financial Times:

Only The Ignorant Live In Fear of Hyperinflation. (Paywall protected). The article is by Martin Wolf, whose confidence in the benign force of central banking remains undimmed, nay, is enhanced, by the events leading up to and after 2008.

Here are a couple of paragraphs that I can extract for you:

Understanding the monetary system is essential. One reason is that it would eliminate unjustified fears of hyperinflation. That might occur if the central bank created too much money. But in recent years the growth of money held by the public has been too slow not too fast. In the absence of a money multiplier, there is no reason for this to change.

In other words, if the ignorant masses can be told about how spiffing modern fiat money systems are and how they are managed, we’d be all a lot happier.

A still stronger reason is that subcontracting the job of creating money to private profit-seeking businesses is not the only possible monetary system. It may not be even the best one. Indeed, there is a case for letting the state create money directly.

Put the state in charge of increasing/cutting the volume of money in the system. I am sure that will work like a charm. What could possibly go wrong?

Okay, enough of my sarcasm. Now, it may well be that fears of hyperinflation are unwarranted.  It is entirely possible that in the West, we face a Japan-style multi-decade period of stagnation rather than hyperinflation. The structure of the economy, even demography, can have an effect on how quickly/slowly money moves around the system. Despite various central banks – particularly in the case of Japan – printing money in vast amounts, it may be that we should not be concerned about what the State is doing, and continues to do, to money.

But it is worth noting that since 1971, when Nixon severed the gold link to the dollar, although that link had been dead in all practical terms for a while, the dollar has lost about 85 per cent of its purchasing power. And much the same can be said of the fiat money systems in force around the world. No doubt the FT thinks this is nothing to bother about. Weimar? No chance of that happening again, old boy. Too many clever people working in the central banks to let that happen again. Trust us, stop worrying and it will all come out in the end.

The irony, of course, is that people who tell us to stop fretting about the central bank buggeration of money and the need to put even more State control over all this are the same as those who say it is folly not to be scared witless by AGW, or by whatever fashionable panic happens to be out there (particularly when it is associated with calls for governments to “do something”). But if people are fearful of something caused by states with their monopoly powers, then the FT’s reaction is a typical example of what we get.

40 comments to Argument from intimidation headline of the day

  • Andrew Duffin

    Roger Bootle was at it in the Telegraph the other day: “Inflation is too low, we need more QE otherwise the spectre of deflation will arise” (I paraphrase).

    Translation: “We’re not devaluing our currency quickly enough, hurry up and print more worthless paper otherwise prices might fall”.

    Put like that, it sounds utter madness, does it not? But no doubt Bootle, like the rest of the great and good, knows best.

  • JohnB

    It’s all about transferring wealth.
    Those getting it don’t want it to stop.
    It is that simple.

  • Martin Wolf is part of the group/class that controls the money supply, and is comfortable with his colleagues’ expertise. He is not part of the group that emits all that nasty CO2 stuff.

    Note: Although we might share a gateway IP address, I do not know Martin Wolf and could not pick him from a line-up. The above is normal blog-comment speculation.

  • Laird

    Well, it’s not quite that simple, JohnB, but that’s certainly a big part of it. Another part of it is those in power seeking to maintain and increase it.

    Yesterday the US stock market took a fairly large tumble. The pundits (who always seem to have a ready explanation for every move of the markets) are claiming that it was due to fears that the Fed might actually continue on its announced course of gradually decreasing its expansion of our money supply, and they might actually be correct. No one ever seems to grasp the implications of that argument: that present stock prices are being artificially inflated by the Fed’s actions, and that we’re in another unsustainable bubble. Some of them must understand that and they’re just whistling past the graveyard. But the amount of abject economic ignorance in the financial press is staggering.

  • Mr Ed


    He is not part of the group that emits all that nasty CO2 stuff.

    My condolences on his ceasing to breathe.

  • Oh, that’s good Mr Ed.

  • Mr Ed

    I nominate John B for QotD:

    It’s all about transferring wealth.
    Those getting it don’t want it to stop.
    It is that simple.

    Politics in a nutshell. (The nasty ones want blood too).

    My apologies to Simon for my asininity.

  • Sigivald

    The 40 years from 1971-now (rounding, obviously) saw an 85% loss of purchasing power?

    The charts I see suggest a similar drop in the preceeding 40 years, before the end of Bretton Woods – and purchasing power doesn’t appear to have been exactly stable before Roosevelt’s gold-grab either.

    Gold’s (or silver’s) only special property is that you can’t deliberately inflate or deflate it.

    It doesn’t stop anything else, like losses of purchasing power from non-monetary-policy reasons, like our recent energy-price-caused inflation.

    The FT is right, I think, in that as long as there’s no inflationary policy (and no future expectation of it) there’s little practical difference between fiat currency and metallism.

    Too many libertarians are gold bugs, and it distorts analysis. (Remember that Mises said a return to gold was untenable in the 20s, in the Theory of Money and Credit, and that hasn’t changed.)

  • Laird

    Sivigald, a few responses to your comment:

    1) “Losses of purchasing power from non-monetary reasons” are not inflation. Energy price increases do not cause inflation, nor are they (necessarily) symptoms of it. Inflation is by definition a monetary phenomenon. One can attempt to measure it in the form of various price indices, but those necessarily include all sorts of exogenous factors (changes in consumer preferences, technological advancements, etc.) so such measures are far from perfect. Even the “risk-free” treasury rate isn’t a perfect measure of inflation, because it still includes supply/demand effects. But even if we can’t measure it precisely it doesn’t help to have people continually conflating price increases with inflation. They are separate things.

    2) The lack of an (admitted) inflationary policy doesn’t mean that it doesn’t exist. Inflation can be a side effect of other policies. But we do, seemingly always and ever, have explicit inflationary policies, at least to some degree. The US Federal Reserve currently has a policy (as I recall) of 2% inflation. Sounds small, doesn’t it? But that simply means that the dollar will lose fully three-fourths of its purchasing power over a normal lifetime. That is hardly insubstantial.

    3) I do agree with you that if there is no actual inflation (forget about policy; I’m talking about actual results) there would be no practical difference between a fiat currency and metallism. But leaving aside the inconvenient fact that such has never happened in human history, a non-inflationary currency would eliminate the entire purpose of having a fiat currency in the first place. No government would ever embark upon such a course, at least not for long. Governments print currency (and enact legal tender laws) for one reason only: so they can covertly steal their subjects’ wealth over time. Yours is a nice theory, but it founders on the shoals of reality.

  • Paul Marks

    Martin Wolf and the Financial Times.


  • Richard Thomas

    Laird, absolutely right about the stock market inflation. Then there’s also the demographic time bomb. We’re used to thinking of it in how it will affect state pensions but it’s going to impact private investments too. It’s not going to be pretty.

  • Richard Thomas

    Johnathan, I would actually prefer that the government print money directly over the current system, perhaps coupled with elimination of taxes. But on the whole, rather not.

  • PersonFromPorlock

    April 11, 2014 at 1:16 pm
    But the amount of abject economic ignorance in the financial press is staggering.

    Laird, you fail to grasp the point the financial press does, that bubbles only exist after they burst. At the moment, the market is enjoying robust health. Admittedly, we’re falling past the fortieth floor at terminal velocity, but ‘so far so good’. ;^)

  • Laird

    Indeed, PfP.

  • MrEd. No need. You made me laugh.

  • Lee Moore

    Looking at this site http://www.measuringworth.com/graphs/

    and in particular the graph of US CPI, doesn’t quite bear out the theory that inflation hasn’t changed much since the end of the gold standard, or even the end of Bretton Woods.

    Using the 1982-1984 average CPI as 100, the graph for US CPI hovers either side of 10, all the way from 1800 to 1915; with spikes to about 16 during the war of 1812 and the Civil War.

    From 1915 to 1920 the CPI doubles from 10 to 20, and from 1920 to 1934 it drifts back down to 13. Overall from 1915 to 1934 it goes from 10 to 13, representing inflation of about 1.3% a year, with more than 100% of that represented by the years of the First World War. For the total period from 1800 to 1934, we have an annual inflation rate of a little under 0.2%.

    From 1934 to 1970 it goes from 13 to 39, representing inflation at 3% a year.

    From 1970 to 2014 it goes from 39 to 233, representing inflation at 4.1% a year

    So there has been a fifteen to twentyfold increase in the average rate of inflation since the US confiscated its citizens gold, and there has been a significant increase in the rate even after the end of Bretton Woods.

    I would also argue that the amount of statistical fraud in the calculation of US CPI has increased markedly since 1970. Arguably, some portion of the “new improved” CPI calculations are justified, so the pre 1970 average inflation rate may be a little exaggerated. But some (larger) portion is not justified, so the true inflation rate is understated post 1970.

    I’m not a gold bug myself – gold as money is far from perfect. But there’s no doubt that over a long period it holds its value far better than fiat currencies. My view is that “store of value” and “medium of exchange” are not alternative uses of money, they are the same use. Aside from fungibiity, transportability etc, money is useful as a medium of exchange only if it is a store of value. But it only has to be a store of value for long enough to make it to the next exchange. The usefulness of money as a medium of exchange may well be sufficient to overcome a value which falls at say 2% a year. Between getting my paycheck and spending it, if my money is depreciating at 2% a year, I don’t really care. So the fact that fiat money might fall 85% in value over 40 years doesn’t mean that it’s useless as money.

    The real question is what rate of depreciation of value becomes inconsistent with usefulness as money, and what triggers the panics that cause velocity to increase and hyperinflation to take off ?

  • Runcie Balspune

    The one thing that Statists love to do is make imaginary entities out of nothing and give them a life of their own, the concept of “The State” is the prime example, almost as if Thatcher’s “no such thing” should be another God of the Copybook Headings. In this example he’s elevated “Money” and “The Economy” as more imaginary entities in the same mould, that “The State” needs to administer, obviously.

  • Richard Thomas

    Lee, quite close. But if you are getting your paycheck and spending it, you are doing it wrong. At some point in our lives, if we make it that far, we lose competence, ability and drive. That is, we get old. Whilst topping yourself is always an option, some of us would like somehow to provide for our dotage so we can don flat caps and tootle around under the speed limit on Sundays. The most obvious way to do this is savings and investments and a wise person might be able to commence this path sometime around their late teens. That could imply 45 years or more of robbery of their wealth by the state and financial hangers-on.

    Now, you mention 2% but some estimates of the true, unadjusted rate of inflation place it somewhere close to 5% (in the US but I believe the figures are not dissimilar in the UK). However, even at 2%, the dollar that a 20 year old would deposit in a non-interest bearing account would be worth around 40% of its value at retirement age. If you take 5%, it’s an astounding less than 10% of the value it is worth.

    Of course, if you invest, you get returns and if you save you get interest. But savings interest rates are currently less than even conservative estimates of the true rate of inflation (one of the consequences of inflation is low interest rates (this is a market distortion BTW) and investments… as Laird mentions, these are currently in a *huge* bubble due also to inflation (all that money has to go somewhere and government incentives for companies not to provide dividends doesn’t help). If you thought the housing bubble was bad, you haven’t seen anything yet.

    Hyperinflation could/will come as people lose confidence in government money and require more of it to perform their tasks or require other payment options or give up performing those tasks entirely, possibly having invested in stuff that makes more sense than dollars or pounds.

    With that said, the crisis for the US is more likely to come with world abandonment of the petrodollar. I become more convinced that his intention to abandon it is why Saddam had do go and others are suggesting that is also what brought about Gaddafi’s end. The US’s ability to increase its debt depends intimately on the world’s acceptance of the petrodollar but the way it is currently leveraging that makes the dollar less and less palatable to those who are feeling that leverage. China is likely to go first. Europe has made rumblings but I think their economy is too closely tied to the US to rock the boat.

  • Lee Moore

    Richard Thomas

    I’m distinguishing between money- a store of value that is useful as a medium of exchange, because of its other qualities inc fungibility, transportability etc; and investments – stores of value (and with luck increases of value) in forms that are not very useful as money, and which will normally represent capital employed at some risk, whether as equity, a loan, the purchase of land etc. I don’t recommend either spending your whole paycheck, or storing all your capital in the form of money. You only need enough money to see you through until you can realise one of your better stores of value – your investments. All I’m saying is that it’s far from obvious that money needs to store value at 100% efficiency.

    If you store water in a water butt, it sits there for weeks, and if the butt has a leak, it’s useless as a water butt. But as well as a water butt you need a bucket to transport smaller quantities of water from your water butt to your geraniums. If the bucket has a small leak, so long as you can get from butt to geraniums without losing more than say 20% of your water along the way, the bucket still works OK for its function. And it is still a better bucket than the butt is. Because although the bucket is leakier than the butt, it’s much easier to transport about.

    But if the bucket is very leaky and you lose 75% of your water before you get to your geraniums, you need a new bucket.

  • Mr Ed

    I’ve mentioned this before recently, but would like to re-state that money is not a ‘store of value’. Value is a transient state of mind, ever-changing. Money is not a battery that stores ‘economic’ charge. Money may retain its value well, as the Deutschmark did, or not so well, like the Portuguese Escudo, around 150 to £1 in 1983, then down to 250 to £1 a couple of years later, including a 30% or so devaluation overnight c. 1984, without the £ (Sterling) appreciating and indeed itself depreciating all the time.

    Fiat currencies are like gliders wheeling around on a summer afternoon in the Northern latitudes, with a bit of care you can stay up a long time, and a reckless dash for speed can lead to a swift nosedive and crash.

    A German in late 1922 selling all his assets for Papiermarks would find that his ‘store’ of value is a pile of paper fit for Monopoly or a museum in 1924.

  • Lee Moore

    Mr Ed

    Not sure whether you’re distinguishing between a “store of value” and “something which may retain its value well” in which case your distinction is too subtle for me; or whether you’re just saying that paper money is often not a very good “store of value” / “thing that retains value.”

    Of course value is subjective in one sense. But in the sense that your mind may predict, either well or poorly, what exchange value will be set on your money by other minds, there is an objectively measurable element to it too.

  • Tedd


    Isn’t it true that prior to the twentieth century their were deflationary periods, and that they were regarded as a problem by pundits (if not economists) of the day?

    I generally see the economy through the lens of an engineer, which leads me to think that declining prices ought to be the norm, due to technological progress. But, as you pointed out, that’s not the same as deflation.

  • Sam Duncan

    “My condolences on his ceasing to breathe.”

    <a href="http://www.smbc-comics.com/index.php?db=comics&id=3324&quot;Coincidental gag spotted yesterday. I almost posted it at Counting Cats, ‘cos Nick will get a kick out of the last frame (they must be at the Co-Op).

  • Sam Duncan


  • Richard Thomas

    Lee, I get your point. Merely as a vehicle for exchange of goods and services, some minor fluctuation would probably not cause too much trouble.

    I’m not so sure the two can be separated easily though. One of the problems that Bitcoin currently has is its volatility is an obstacle to those who would accept it as payment. There are services which mitigate this risk somewhat but ultimately the way they do this is by the seller not really becoming an adopter of Bitcoin but just using it as a payment service. This is not a bad thing for Bitcoin but not as good as full (or even a fuller partial) adoption.

    Ultimately, for many, it’s hard to get away with not holding funds for some amount of time. The higher the inflation, the shorter you want to hold the funds for. Your velocity acceleration as you say.

    Mr Ed: Quite. Which is typically why one would (at the least) put ones money in a savings account which is not, of course, a store of money but an investment vehicle rather than keeping it in a box under the bed.

    Tedd, it might be worthwhile to examine exactly what the situations of those pundits were to examine why they thought that deflation was bad. Agendas can be so personal. Let us also not dismiss the inclination of people to run around screaming that the sky is falling and “something has to be done” at every little market correction.

  • Laird

    Sam, great cartoon; thanks. I think I’ll be doing that myself upon occasion!

    Tedd, I’m not sure what pundits were saying about deflation back in the 19th century and earlier. (Someone else here might know.) But yes, that era of commodity-based money was a period of generally mild deflation. As to your “engineering lens”, you are correct that technological advances should lead to declining prices (and in fact they do, which is one of the justifications given by the US government when it routinely falsifies the CPI calculation). But beyond that, a growing economy by itself should also lead to general price declines. This is what Detlev Schlichter refers to as “secular deflation”, which he sees (and I agree) as a Good Thing because it means that everyone benefits from the general economic growth. By contrast, when a government inflates its currency most of the benefit of that economic growth is transferred to the banking interests (and, of course, to the government itself).

    You can see this vividly illustrated if you take a look at some of the fascinating charts available in that wonderful site Lee Moore linked above. (Thanks for that, Lee; I hadn’t seen that site before but I have now bookmarked it.) If you plot the US Consumer Price Index against real GDP per capita over the whole of the 19th century you’ll see a general decline in prices and a steady growth in per capita GDP. (The two inflationary periods coincided, not surprisingly, with wars, specifically the War of 1812 and our Civil War). The result is even more pronounced in the UK over that period. This clearly demonstrates that expanding the money supply (i.e., designed inflation) is not necessary for a growing economy, but that is contrary to the received “wisdom” of mainstream economists today who choose to ignore inconvenient facts which are contrary to their nice theories.

  • Lee:

    The real question is what rate of depreciation of value becomes inconsistent with usefulness as money

    It’s not only the rate of depreciation that matters – you can’t separate it from the reasons behind the depreciation, but it is also a cyclic phenomenon. To begin somewhere in the cycle, let’s examine this statement:

    Between getting my paycheck and spending it, if my money is depreciating at 2% a year

    But what about savings/investments? This is where longer time frames are entering into consideration, and where money becomes more of a store of value than a medium of exchange (if allowed to do so). If the money depreciates too fast, there will be less savings and less investment. Unless, new money is easily available for the purposes of investment. Do you see where I am going with this, and am I missing something?

  • Please disregard my comment – I both botched Lee’s quote, and the page did not reload properly so I missed all the new comments…sigh:-/

  • Lee Moore

    To be frank, Alisa, I’m not quite sure where you’re going with this.

    1. if it’s that a nominal return on investment of 5% pa is only worth 3% pa if money depreciates at 2% pa, then my answer is….yes. But I don’t see that that really impacts on the fact that slowly depreciating money doesn’t prevent the money being useful as a medium of exchange. You just have to spend longer doing the accounting for investments, to see how well you’re really doing.

    2. Though I recognise, of course, that such measurement complications add a frictional cost to the economy which must depress overall economic welfare, as compared with having money that doesn’t depreciate. ie the unit of account use of 2% pa depreciating money is poor compared with constant value money.

    3. if there’s a fixed stock of money and its value decreases by 2% a year, then the money supply will fall. and depending on whether you are a monetarist or an Austrian, you may think a continually shrinking supply of money may or may not have a bad effect on the economy. But since we were talking about whether fiat currencies which shrink in value at 2% a year were useless as money, I would suggest that there’s no difficulty in creating an extra 2% of the fiat currency each year to keep the money supply constant, Indeed even with gold they keep digging it up, so if gold was a bit radioactive and 2% of it turned into lead every year, even such a gold money system need not suffer a shrinking money supply, if another 2% is dug up each year.

    4. If your point was not related to one of these, I’m missing it.

  • Lee Moore

    Sorry, Alisa, I posted that before I saw your second comment

  • Laird

    @Lee: “If there’s a fixed stock of money and its value decreases by 2% a year, then the money supply will fall.”

    Sorry, but that makes no sense. If there’s a “fixed stock of money”, in a growing economy its value will increase every year, not decrease. Its value decreases only if the money supply is not fixed, but rather is growing. If it truly is fixed (which is what I think you’re getting at) then the money supply will indeed fall not in absolute terms but relative to the overall economy. That’s the “secular deflation” I mentioned earlier. It means that over time the value of money increases gradually along with economic growth, which is good for everyone except debtors and the government (which, of course, are overlapping sets).

    You seem to be arguing for the standard Keynsian position that a nation’s money supply must grow to keep pace with economic growth, so prices remain constant. First of all that’s demonstrably untrue, as is shown in the data you yourself linked earlier in this thread, and which I discussed in my previous post. (It’s especially obvious if you plot the log of those data series.) Economies grow just fine with a constant money supply and mild secular deflation (and in a gold-based monetary system the amount of newly mined gold coming into that system is usually small enough to have a negligible effect; historical examples to the contrary are rare and not likely to be repeated until we find the alchemist’s stone). Second, governments are notoriously bad about keeping prices constant, which is why they resort to such transparent tricks as falsifying the price data. And of course even if they aver that price stability is their is their sole intent, such a course of action is directly inimical to its needs, and governments which control fiat currencies always end up debasing them to serve their own ends. That’s simple historical fact; there is not one government in history which has eventually failed to do so.

  • Lee Moore


    By “if there’s a fixed stock of money” I meant if there’s a fixed stock of money units, whether they be dollar bills or ounces of gold. So if there are 1,000,000 purple sea shells which people use as money, the stock of money is 1,000,000 purple sea shells. In year one, a hundred purple sea shells buys either one loaf or two fishes (loaves and fishes being the only two consumer goods in my economy.) If the value of money falls by 2% a year then in year two one loaf or two fishes will cost 102 sea shells.

    I wasn’t intending to allege anything about growing economies or whether the Austrians are right or wrong that the stock of money units doesn’t need to grow to accommodate a growing economy (because the value of money can increase to pick up the slack.) But since I had assumed as a hypothesis that the value of money was falling by 2% a year, in an attempt to show that it didn’t really matter much if the value of money falls by 2% a year, it’s hardly open to me to come over all Austrian and start arguing about the value of money increasing, since it would directly contradict my hypothesis.

    I don’t know whether the Austrians are right or not. The evidence of the nineteenth century seems to show that you can have economic growth with gently falling prices. Against that you could say that ancient statistics may be a bit dodgy, and maybe economic growth has been better in the 20th century with steadily rising prices than in the nineteenth. Or maybe it’s technological change. I don’t know.

    All I’m saying is that if the Austrians are wrong, and if it is necessary or desirable to keep the money stock constant, or at a constant value relative to the size of the economy, then money depreciating at 2% a year does not have to result in a falling money supply. (By money supply I mean the value of the money stock, ie quantity of money units times value per unit measured in loaves and fishes.)

    None of which is to say that I favour fiat money, or 2% inflation. My only point is that if fiat money could deliver a steady 2% inflation (a big if) it is not obvious to me that that such fiat money would be useless as a medium of exchange, even if 2% a year totted up for fifty years amounts to a very sizeable debasement of the currency. And my reasoning is simply that each holder of money only needs it to hold its value reasonably well for a few months, or a couple of years at most.

  • Roue le Jour

    Inflation can reasonably be considered as a tax, and as taxes don’t render money unsuitable as a medium of exchange, then neither does inflation.

    As to deflation caused by a fixed money supply, I would expect that for an economy growing modestly, as the UKs generally does, it would not present a problem on a day to day level, but for a rapidly growing economy, I would expect problems.

    However, consider this. Getting people to save for their retirement is difficult but essential when people are living as long as we do. This is not helped when a dollar saved at the beginning of your working life is worth less than half when you retire. Flip the sign, i.e. 2% deflation, and now a dollar saved when you are twenty has more than doubled by the time you retire. This would seem to me to be a good enough reason in itself to promote modest deflation.

  • Roue le Jour

    I’ve just noticed that Detlev had something to say on this a couple of days ago.

  • Laird

    Lee, you can’t just posit that “the value of money falls by 2% a year” without specifying why. In a growing, or even a stagnant, economy the only possible reason is expansion of the number of currency units in circulation. Only in a shrinking economy can a fixed quantity of monetary units lose value (i.e., purchasing power). In your example, if the loaf or the fishes costs 102 shells in year 2, the only possible reason for that is either there are more than 1,000,000 sea shells in circulation or there are fewer loaves and fishes available for purchase. Your starting premise is illogical.

    As to your point that a 2% inflation rate doesn’t render the currency useless as a medium of exchange, of course that’s true. Even in Weimar Germany people continued to use the old mark for purchases. But the rate of inflation forced people to spend all of their currency as soon as they received it. If you spend all of your earnings on consumption goods, inflation is largely irrelevant. But if you plan to save anything (in any form other than long-term tangible assets which, you hope, will appreciate in value at least as fast as the inflation rate) it’s a disaster. Roue le Jour is correct.

  • Tedd

    Laird and Lee Moore:

    This is a bit OT, but I’m intrigued by the historical price of gold shown on that measuring worth web site. After the Nixon Shock, the exchange price of gold shot up, which makes perfect sense to me. But then, around 1980, the rise levelled off and it has been relatively flat since then. Why would that be? Did gold remain an implicit standard of value for a decade and then adjust to being merely another commodity, or was there something else going on? I know the change coincides with Reagan’s higher interest rates and the end of the “stagflation” era, so I assume that’s connected. But I don’t understand the connection.

  • Lee Moore


    1. If money devalues at 2% a year the likely reason, I agree, is that someone’s creating 2% more of it each year. But it’s possible that the stock of monetary units is unchanged, and the velocity of circulation has increased by 2% pa. It’s highly unlikely to do this at a steady 2% pa for forty years, but it’s possible that a change from metal money to paper money to electronic money could produce a significant long term increase in velocity for purely logistical reasons. In any event, the reason for the falling value of money is not important to my argument that 2% inflation is not inconsistent with money being useful as a medium of exchange. I believe I’m allowed to make this 2% depreciation hypothesis without specifying a reason for it.

    2. I don’t agree with Roue le Jour’s point that inflation makes saving less worthwhile. What matters is the real return, not the nominal return. The fact that there may be 2% inflation does not have any effect, of itself, on real returns. It just means that the real return is more complicated to compute than if money had a steady value. Inflation causes two main problems with saving and investment – the first is this measurement problem. Although it’s easy enough to say in an economic textbook that nominal returns can be converted to real returns by a little arithmetic, in real life it’s costly to do the arithmetic. If you want to rent your land out at £100 a year (real) then it’s easier to rent it out at £100 nominal with steady prices. Changing the nominal each year to account for changes in prices is a costly fuss (and a costly fuss which invites errors of judgement and so inflicts real costs on the economy over and above mere calculation costs.) But this problem arises equally with deflation. The second problem with inflation is tax. If you tax the return on savings, unless you fully index the calculation of the return, you finish up taxing capital as well as income. That’s exactly what happens with interest income, where the effective rate of tax on real interest is not 20% or 40%, but more like 80%, and when inflation picks up, over 100%. Deflation has the opposite effect, enabling savers to avoid tax on their real return. Which you may not regard as a problem, if you don’t think interest should be taxed.

    3. I haven’t checked with the charts, but my recollection of the gold price movement since 1971 is that it shot up in the seventies, peaking in 1980, and then steadily drifted down until about 2000 (the Brown bottom), then shot up again with a blip or two until 2012 or so, and it’s then fallen by about a third from its top.I wouldn’t describe this as “relatively flat.” In nominal terms it’s had quite significant ups and downs, and in real terms even more so. As to the reasons, my view is that it shot up in the seventies (a) as a catch up of all the paper money inflation since 1934 and then (b) wildly overshot because of collapsing faith in the dollar. When Volcker jacked up interest rates, faith n the dollar returned and so the froth blew off gold. (I say wildly overshot with the benefit of hindsight as if a different Fed chairman had continued with heavily negative real interest rates there would have been every reason for gold to carry on up) Faith in the dollar helped keep gold down until 2000 or so, by which time it had gone so out of favour that it had overshot to the downside. I don’t know what caused it to take off again in the 2000s – perhaps it just seemed cheap. But I also expect that innovations like etfs added to demand.

    In a world where the dollar is still the dominant form of money, I don’t think there’s any reason to believe that gold will have a steady value. It can shoot all over the place according to changing demand. So I have no idea whether it’s a good buy at $1,300 or not. I was more confident that it was a good buy at $400 ten years ago, so I bought some. But at present I don’t think it’s money, it’s just a commodity, part of whose value comes from being a place of safety against hyperinflation. But I wouldn’t put your granny’s life savings in it. It might halve in value in the next year. The dollat WILL halve in value in five tears or ten years or twenty years. But next year it’ll still probably work as a medium of exchange. Gold won’t. (Note I do not hold myself out as any kind of expert on gold. I just stick my spare shillings in what I feel like and hope to finish up ahead. After inflation.)

  • Laird

    Tedd, I agree with what Lee said about gold (and I profess no expertise about it, either).

    Lee, it is theoretically possible that an increase in money velocity could produce a rise in the general price level. (However, I would point out that the velocity of money, however measured, has declined substantially over the last five years and yet price levels have not dropped, so there seems to be some flaw in that theory.) But even assuming that it is true, you are again looking at a symptom, not a cause. Why has the velocity of money increased, i.e., why are people choosing to spend it more quickly today than they did a year ago? Again, you can construct various theoretical explanations, but the most likely is simply that either the money supply is expanding or that people believe that it will be expanding soon. Fundamentally, inflation is always and ever a monetary phenomenon.

    You keep repeating that a small level of inflation is irrelevant to money’s use as a medium of exchange, and I keep agreeing with you. But that’s not money’s only use, and for anyone not at a subsistence income level even low levels of inflation are a serious problem. You are certainly correct that it is real, rather than nominal, returns which matter. But in order to realize those returns inflation forces you to take on other risks. Where do you put your savings? Do you invest in real estate or commodities (such as gold)? We’ve had recent experience with those, and people have been badly burned. The stock market? It’s a huge bubble today; I don’t want that risk. Government bonds? Aside from the ever-present risk of default, and normal market-price risks as demand for them waxes and wanes, the unfortunate truth is that real returns on US government bonds are negative today (and that doesn’t even factor in the tax consequences which you noted in your last comment). For someone who wants to take no risk there is literally no option available in an inflationary economy which preserves his purchasing power. In an economy with a stable monetary base you can bury your savings in a coffee can in the back yard and 25 years later have lost nothing. But in a 2% inflationary world you will have lost have of your value.

    Savings is the lifeblood of an economy (as Paul Marks will no doubt remark, it’s the only source of real and sustainable economic growth). Denigrating its importance, or stealing it through the “stealth tax” of inflation, is unwise in the extreme.

  • Tedd

    Laird and Lee:

    Thanks for your comments. I admit that I did not look at the price of gold after 2000, so I completely missed those changes.

  • Roue le Jour


    The fact that there may be 2% inflation does not have any effect, of itself, on real returns.

    Only if everyone knows, with absolute certainty, that inflation will be 2.000%. I would argue that the inevitable uncertainty arising from inflation will always reduce real returns.