Inflation question - Input Junkie
A better way to put it is whether the ill results of inflating the money supply are immediate or postponed. If the money goes into investment, then the immediate results appear good; there are more jobs and more production. But since these are the result of cheap money, it goes disproportionately into the areas to which the money is most readily available, eventually resulting in a "correction" (if it's small) or recession (if the effects are more general) when the investments go bad. If the money goes directly into people's hands, either directly from the government or through increases in pay, an increase in prices is likely to follow.
In recent years, we saw an atypical boom-and-bust: Government policies encouraged easy credit to home buyers rather than business investors, resulting in a rise in prices in homes followed by a bust due to bad investment. We've seen a third case at the same time: Much of the increase in the money supply has gone into foreign borrowing. The result is that domestic prices haven't taken off, but the value of the dollar in the eyes of foreign investors is getting steadily shakier. They don't want to blow off their investments, so there hasn't been any major effect yet. But if and when they do, the results could be major.
My question may have been unclear-- what I'm curious about is whether there are factors which cause the economy to have one reaction rather than the other one, or a mixture of the two.
Edited at 2009-09-21 01:05 am (UTC)
It's a matter of conjecture. If the supply of money grows faster than the aggregate demand for it, there will generally be inflation. The demands include consumption, savings, government expenditures, debt service, balance of payments, etc. with different interdependencies.
If the supply does not grow fast enough, there will generally be economic slowdown and rising interest rates.
I don't think it's factors in the economy, so much as how the increased money enters the economy.
|Date:||September 21st, 2009 02:46 am (UTC)|| |
Actually, I would say it was a pretty typical boom and bust. Prosperity led to rising land rents, which led to land prices rising even faster, to reflect expected future rents. Land prices couldn't keep rising by double digits forever, so they finally stopped, and when they stopped rising, they fell, since they were inflated, based on expectations of future increases, rather than value for current use. This has happened many times before.
Increasing the money supply (inflation in the original sense) is likely to give us higher prices (the usual current meaning of inflation), not prosperity. We can have stagflation, contrary to Keynesian orthodoxy. Exactly what the results will be, when, is not something I can predict.
Prosperity by itself doesn't lead to a positive feedback loop in prices. Several aspects of government policy, including the tax shelter of home mortgages and the constant encouragement of marginal loans, promoted the increase.
|Date:||September 22nd, 2009 02:09 am (UTC)|| |
Prosperity by itself doesn't lead to a positive feedback loop in all prices, but it does lead to a positive feedback loop in land prices, given that land is privately owned and not very heavily taxed. The particulars of government policy you mention contributed, as did NIMBY zoning laws in some places that helped send real estate prices sky-high, but they aren't the basic cause.
This isn't standard economic theory, but it explains -- and predicts -- events better than standard economic theory. It was developed in the 19th century by a politicla economist named Henry George, and has been further developed by modern Georgists, notably Professor Mason Gaffney. Try Googling, and you can learn about this stuff.
Easy credit was available to business as well. This contributed to so many companies being leveraged. Indeed, the other problem with the economy is the reward cycle for business was significantly warped. This is also a result of government policy (and common law) curtailing the mechanisms by which business owners (stockholders) could hold those actually managing the business accountable. In particular, the effective elimination by the SEC and the courts of Delaware of the shareholder derivative suit -- by which shareholders could hold officers accountable for wasting corporate assets -- and the rise of common stock with effectively no voting rights, allowed those who controlled the corporation, but did not own it (the officers) to establish lavish salaries and engage in risky behavior.
Tax incentives for corporations likewise have had significant warping effect on corporate spending, often encouraging behavior that had nothing to do with increasing value.