Take a look at the fiscal situation in Europe and Japan, and then the inflation rates in Europe and Japan, if you are still skeptical that monetary policy drives inflation.
My comments:
1. This sounds like a good retort to a view that government deficits determine inflation, because deficits are high in those countries. However, it might also be a retort to the view that money growth determines inflation.
2. I think that you want to hear that “X determines inflation.” The most common view of X is that it is money growth. And when I say that it is not money growth, you want to jump to the conclusion that I must mean that X is the budget deficit. But my troubling answer is that “there is no X.”
3. Prices have meaning in an economy because people expect to wake up tomorrow to find prices very similar to what they find today. Money has value today because people expect money to still have value tomorrow. Thus, I say that money and prices are a consensual hallucination.
4. When have seen money and prices break out of a stable pattern? During hyperinflations, we see governments unable to borrow at reasonable interest rates but still determined to run deficits. Then they print so much money that prices lose their meaning.
5. In general, then there is a regime with very low and stable inflation, and there is another regime with very high and variable inflation, and a necessary condition for the latter is high budget deficits. However it takes more than high budget deficits to get to the high-inflation regime. It takes a deficits that reach a point where the credit markets attach a punitively-high risk premium to the government’s debt.
6. The biggest puzzle for this point of view is an intermediate-inflation case, such as the U.S. in the 1970s. I am left with hand-waving, like saying that wage-price controls created a backlash, where people tried to charge as much as they could, while they could, before they got hit with wage-price controls again. Or the rise in the price of oil created an “inflation psychology.” However, I take a Fischer Black view of monetary policy in that period, which is that money is passively supplied to meet the need for transactions. Remember that the 1970s was also a period in which “money” as we knew it was radically changed by money market funds and the erosion of interest ceilings on deposits.
7. In the 1960s, monetarists wanted to set targets for money growth. Today, there are no money-growth targeters left. That is a tacit admission that there is no reliable relationship between money and other nominal variables.
Do you think the “Nixon Shock” of the early 70’s, closing the gold window, and the end of Bretton Woods had something to do with it?
the devaluation would have been inflationary. And I think that ultimately the wage-price controls were inflationary, also
X is supply and demand for the unit of account. The central bank has a powerful influence i on demand for money via expectations and IOR. And it has an infinite capacity to increase the supply.
Do they? I mean, I have no idea what is what, but don’t you guys see how this stuff can sound question beggy and tautological to non-true believers?
And if you guys are right, when do we start the beheadings?
Multiple factors with varying levels of power and varying exertions of power.
In general, then there is a regime with very low and stable inflation, and there is another regime with very high and variable inflation, and a necessary condition for the latter is high budget deficits.
But what if the Treasury Department just printed up $100 bills and left them in boxes on street corners? No accounting. No spending. Therefore no deficit. And no departure of the central bank from its charter either.
If it printed up a trillion of them, would there be hyperinflation? If it printed up a billion of them, would the economy hit an NGDP level target?
How about the demographics of the Baby Boom across the developed world? The 1970 inflation was caused by the huge increase in the workforce and high inflation was papering over lower wages. (Throw in politics of oil, the ending of sex & race discrimination as well as the success of Germany & Japan.) In reality, the Carter years had more net job creation per year than the Reagan administration.
So why do we have low inflation today? The Baby Boomershave crossing 50 and consuming less and the younger population is not filling in these positions. (In reality this should have happened at 2001 – 2006 but the housing boom papered over this) And look at the US job market we seem to have the worst economy ever with 5.1% Unemployment and drops in labor participation rates.
Arnold,
I agree with all your points. I’d make a small change in the view that government deficits cause inflation, to argue that inflation is determined by how government deficits are financed (hyperinflation is caused by large deficits that can be financed only or mainly by printing money— see Colin Campbell and Gordon Tullock JEP 1954, and Phillip Cagan in Friedman 1956). In relation to your reference to Fischer Black, let me remember that Julio Olivera in the 1960s explained the structural view of inflation in Argentina and other LA countries by money passively supplied to meet an increasing demand for transactions in turn the result of adjustments in relative prices via a discretionary increase in the nominal price of foreign exchange, labor, or a staple.
Earlier today I read Sumner’s last post on his campaign for NGDP targeting (see http://econlog.econlib.org/archives/2015/10/reply_to_kevin.html ) which I regard as a rejection of all your points. I have never been able to take Sumner’s view of monetary policy seriously (it seems a poor restatement of Friedman’s failed framework for monetary analysis).
So, would ngdplt have prevented the housing bubble…or whatever caused the drop in ngdp?