The View From 1776

Inflation consists in increasing the money supply faster than the increase in production of goods that people want, the condition we endure today, in spades. 

If it were true, as liberal-progressives and politicians of all stripes tell us, that greedy businessmen cause inflation by raising prices whenever it suits them, why should businessmen stop at increases of 2% or 3%?  Why not raise prices 50%.  The answer, of course, is that they can’t raise prices whenever it suits them without a consumer rebellion.

Note that the Keynesian concept of cost-push inflation is a myth.  The phenomenon of raw materials and food cost increases leading to increased wages starts with over-expansion of the money supply.  They are results, not causes, of general inflation.

Nor is price spiking in specific commodities or products necessarily a manifestation of general inflation.  Gasoline prices usually rise in summer months, when increased travel demand outstrips refinery capacities and inventory storage.  Middle Eastern wars and threats of wars that might cut off access to major petroleum producing countries will similarly lead temporarily to higher gasoline prices at the pump.

History documents that businesses can’t raise prices across the board if money supply growth stays at or below increases in production.  If businesses arbitrarily attempt to raise prices under conditions of a stable money supply, people will have to buy less, production will have to decline, and prices will have to come down.  If the money supply increases via government deficit spending before production of goods increases, however, prices will rise.

Such has been the effect of government stimulus spending arising from the 2007-08 housing and banking meltdown.  First stock market prices and Wall Street bonuses have soared; now prices of a wide array of commodities, from petroleum to food stuffs, are rising at an accelerating rate.

Keynesian macroeconomic theory asserts that some degree of steady inflation increase is essential to prevent excessive unemployment. 

Arguing against this contention are two big facts: First, stimulus programs funded by fiat money under Presidents George W. Bush and Barack Obama have signally failed to reduce unemployment.  Second, in the century and a half before World War II, jobs and production of goods in the United States grew faster than anywhere else in the world, while prices, other than during war times, stayed the same or decreased.  The difference was that we were during that long period on some variety of gold standard that stabilized the supply, thus the value of the dollar.  After President Nixon abandoned the last vestiges of the gold standard in 1971, inflation surged.

Presuming to manage the economy, the Federal Reserve since its inception in 1913 has increased the money supply faster than increases in production.  Fed chairman Bernanke’s current target is 2% annual inflation, even when economic activity is strong.  QE2 is intended to raise the rate of inflation to around 4% per annum.  So far, it hasn’t significantly reduced unemployment, but commodity prices and interest rates have begun to ascend.

With the brief exception of Fed chairman Paul Volcker’s squeezing the money supply to stop double-digit inflation in the early 1980s, the general price level has risen year-by-year. According to statistics compiled by the St. Louis Federal Reserve Bank, in the sixty years after World War II (1945 - 2005), prices rose at an average annual rate of about 4%.  That produced a cumulative Consumer Price Index crease of 986%.  An automobile that cost $20,000 in 2005 would have cost about $2,000 in 1945.

Remember that when politicians seek to buy your vote with some new welfare-state benefit program such as Obamacare, you and your progeny will pay dearly for it with future inflation that destroys the purchasing power of your life’s savings.

A recent Investor’s Business Daily editorial summarizes it: When Inflation Comes, Blame Big Government