Wednesday, July 21, 2010

Austerity Hawks Are Getting What They Asked For

The risk of inflation continues to haunt monetary policy in the US despite the fact that a bit of inflation could very well be the best medicine for the ailing economy. Keep in mind that inflation (via monetary expansion) tends to erode the value of debt and reduce the real cost of entitlements given that cost of living increases generally lag rising prices. However, the Federal Reserve would be wise to reconsider its priorities given that inflation appears to be collapsing into deflation. For now, the specter of inflation belongs on the "back burner" while the nation contends with the very real convergence of structural unemployment across the country, military commitments overseas, ecological catastrophe in the Gulf of Mexico, immigration concerns along the US-Mexican border, a rising trade deficit caused by the artificially low value of the Chinese Yuan, and the Washington policy-making failures that lead to these crises to begin with. The austerity hawks are getting what they asked for...

4 comments:

Anonymous said...

Ralph at Ralphonomics argues inflation is not caused by money supply, but rather, by spending. Money supply has recently increased with TARP and ARRA, yet deflation is a worry.

Do you think "Musgrave's Law" has any merit?
http://printingmoneyisgood.blogspot.com/2010/07/david-blanchflower-doesnt-answer-64k.html

Dr William J McKibbin said...

Hi Anonymous, monetary expansion (or spending) leads to inflation and risks recession, while austerity measures lead to deflation and risks depression -- why anyone would risk deflation and depression is beyond me -- but, the austerity hawks seem to have won the field as least so far -- the Main Street Depression of the early 21st century is raging on in the mean time...

Anonymous said...

Yes, but as Martin Wolf points out, there is $3 trillion in private money sitting on the sidelines. The money supply is there, but unless it is being spent, it does not cause inflation and deflation can proceed as though the money wasn't there at all.

Dr William J McKibbin said...

There is no inflation right now, but someone is worrying that there could be inflation in the future, and so the nation should pursue monetaryh and fiscal austerity measures just in case of future inflation...? Hypothetical problems are not the subject of macroeconomic policy-making in my view. Best to focus on the present situation to avoid getting confused about what is a problem and what is not. Human suffering is not a hypothetical condition...

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