Saturday, April 18, 2009

You Know It's Getting Bad When...

...Harvard economics professors argue that the solution to our current problem is inflation.

Greg Mankiw is not a crackpot. He's a Harvard economics professor, an advisor to previous White House administrations, and the author of two of my economics textbooks. He says that inflation may be necessary to bring us out of our economic situation. And he's not just saying it- he's writing it in an op-ed in the Sunday New York Times. Which basically says that he thinks it's got a real chance of happening at some point in the future, and he wants his name associated with the idea.

The main reason that aggregate demand hasn't been stimulated by current U.S. monetary policy is because banks who received 'bailouts' from the government are not lending to borrowers. So the Federal Reserve's decision to lower interest rates to nearly zero has been rendered ineffective due to the banks, who are hoarding cash.

Inflation would give these banks an effective incentive to lend money to borrowers. Inflation would also stimulate demand. Another benefit is that inflation would lower the value, in real terms, of our national debt.

If you read the article in the link above, and then read this story about the national debt and your tax bill, you'll start to see how desperate even presidential advisors are becoming.

Inflation isn't the best way out of our economic problems. But politically, it is the easiest way, especially domestically. China recognizes this, and that's why they're making contingency plans with other nations like Argentina, to establish international trade without using U.S. dollars. China is the largest holder of U.S. Treasury securities, so the value of our dollar is very important to them. Inflation would reduce the value of our currency. It may be the easiest political way out of our current economic troubles, but China would likely have strong objections, and who knows what their retaliation would be. Maybe this, or this.

Keep in mind, if the current administration and the Federal Reserve choose to endorse inflation as part of their monetary policy, it is nearly a certainty that they will never admit to it. They will publicly proclaim their commitment to a "strong dollar policy" and they will claim to be "fighting inflation," while only hoping to keep its level from getting out of control. If you hear them issuing denials, you'll have reason to suspect it. You'll never hear them admit it, but you'll know it when you see it at the grocery store.