Readers may recall that last year I was invited to the annual Milken Institute Global Conference as a financial reporter. I was not invited back this year because they were displeased with my commentary (they let me know it). My articles for the most part had to do with technical economic issues that were discussed at the sessions, many of which were quite good. My overall reaction however was critical, and I painted the conference as the Land of Conventional Wisdom.
That aside, when I received their Q3 Review I was actually shocked to see an article entitled, Better living through inflation (Menzie Chinn and Jeffry Frieden). Yikes!
Basically what these professors are saying is that we and the rest of the world are in a mess, nothing has really worked, and to stimulate investment, savings, and spending, the Fed should inflate debt away. To put it in their words:
Washington, Brussels and London have offered a fairly conventional – and often contradictory – mix of macro-stimulus to increase demand, austerity measures to reassure creditors and debt restructuring when all else fails. But they are loath to use a tried-and-true tool to manage crippling systemic debt: inflation.
In other words, the Fed should “print” enough money to create between 4% and 6% (“moderate”) inflation and, as if by magic, within only four years the ratio of sovereign debt to GDP would go from 50% to 40% and everything will be fine.
The only problem with this bit of conventional bad wisdom is that it doesn’t work. This is a kind of deus ex machina plot device. For indeed, their “solution” is all smoke and mirrors.
I should explain that Professor Chinn teaches at Wisconsin and Frieden at Harvard, which explains their very conventional flawed analysis. The starting point of their analysis is that the economy is one giant machine, and as a machine, it can be controlled by operators (economists) who know what to do. They see themselves as “gods of the machine” (dei de machina), if you will. Pull a lever here, turn a dial there, and as if by magic, everyone is saved. This is what most economists believe as econometrician/neo-Keynesian/neo-Classical/neo-Monetarist scholars. Of course to think that they can benevolently “run” the economy is a fantasy that all power-seeking people entertain to justify their actions (mistakes).
Can’t be done. As Mises and Hayek so often pointed out, there is no such thing as a “national economy”. They confuse the billions of economic decisions made every day by we economic actors as some kind of entity that can be manipulated at will. You can aggregate data and call it a national economy, but it’s a bit more complicated than that.
These professors do understand there are “unfortunate” costs to inflation, but they believe they are necessary to make us healthy:
Inflation, to be sure, reduces the real debt burden in ways that hurt some as well as help others. Creditors, of course, receive less in real terms than they had contracted for – and probably less than they expected when they agreed to the contract.
That may seem unfair. But the outcome is little different than what happens to creditors when they are forced to accept the restructuring of their claims through one form of bankruptcy or another.
Yes, not only does it seem unfair, it is unfair because it undoes the basis upon which people make economic decisions: if you don’t pay me, I will sue to collect. Chinn and Frieden say fuggedaboutit:
It is proving extraordinarily cumbersome to renegotiate millions of mortgages and consumer loans. And in some cases, it may not even be feasible because a variety of factors – notably, the securitization of mortgages and the division of interests between loan servicers and creditors– make it impossible for the opposing parties to arrive at mutually beneficial workouts.
It’s not impossible at all; it happens rather smoothly based on settled law, but for the interference of various levels of government which has slowed the process down. State legislators make foreclosure more difficult, judges rewrite the law to aid debtors, and state and federal programs to “help” debtors have dramatically hindered an otherwise (relatively) quick, smooth, and efficient process.Those messy little details are what make the economy work.
Their assertion that costs associated with the “delay” would be more than those associated with inflation is mere sophistry. They have no clue what those “costs” are. Like most economists they argue in favor of inflation without understanding inflation’s unseen costs and fallout. That is because they don’t understand what inflation is, what money is, and how boom-bust cycles occur.
These professors have the idea that all the Fed has to do is create money out of thin air and it will be evenly distributed throughout the economy where eventually all prices go up and thus debt can be repaid with cheaper dollars (dei de machina). Thus they assert that the effects of an injection of fiat money affects all people equally. Not true. The guys who first get those new dollars (usually Wall Street) also get the benefit because they can bid away resources before prices rise and by the time those dollars reach the end of their distribution chain, it’s the “little guy” who finds prices have gone up as those new dollars become less valuable. It’s not as if that little guy can raise his prices to match the rise in costs: he/she loses.
There are a few other details beside the fact that creditors (and savers) get screwed by receiving less value than what they bargained for. Admittedly some creditors will suffer losses anyway as a result of the Crash, but they aren’t the only ones affected by inflation. The real cost of inflation is the destruction of capital. And that is what these economist fail to see.
Inflation is like camouflage. It disguises its destructiveness because it makes projects that were previously seen as unprofitable appear as if they are profitable. This is not some fiction, it operated rather effectively to destroy value and capital during the housing boom. When the tide of money went out, those newly built homes and overproduced condos were discovered to be unwanted and thus wasted. It’s not just fiat money that is destroyed during an inflationary boom; real savings are sucked into to this destructive vortex and are also destroyed. Six years after the peak in housing prices we are still suffering from the fallout. Until real savings are built back up, the economy stagnates.
It makes one wonder why anyone would recommend this destructive force be unleashed on their fellow citizens. It has never worked in history to revive an economy and I challenge these modern day John Laws to prove otherwise. Mostly likely they would rely on some kind of post hoc, ergo propter hoc data set that “proves” it works. But we could easily see through that ruse.
When will our leaders understand that printing money never creates wealth? If it were that simple, we’d all be rich.