The Angry Economist has a thoughtful essay on inflation and what it actually means. One thing stuck out at me, the flat statement that people viscerally do not wish to have productivity lower wages so a Federal Reserve or like institution is absolutely necessary to inflate the currency and keep prices from deflating. This is an unusual economic proposition to say the least. People usually have desires for such abstract things as a unit of account not as absolute values which must be provided but as relative values which can be trumped by a competing desire that is worth more.
Now a central bank constantly runs the risk of mis-inflating and distorting the relations between debtors and creditors by inflating things unexpectedly fast or slow, advantaging one class over the other. This is a real risk that carries tremendous consequences as any student of the Weimar Republic would know. Inflation can lead to political unrest and war in the most extreme cases and often leads to poverty and destitution for people who are caught in its terrible grasp. But the defenses against inflation are a daily cost for all of us as we calculate whether to accept inflation risk or lay that off to some insurance agent who will either provide a lower return (like TIPS bonds versus regular Treasury bonds in the US) or pay off on an actual inflation policy.
So what is the nature of this fear of shifting things to a mechanistic system where wages drop but prices drop more due to productivity? Why is adopting such a system worse than living with the caprice of government officials who manipulate the wealth of the nation to fulfill their own ambitions? And how bad would the costs of those political decisions have to be before the nation says, enough, we'd rather have a static money supply and dropping prices? Could the next Weimar short-circuit the rise of the next Hitler by shifting to such a system? Or would worldwide mayhem and mass casualties really be a price people are willing to bear to preserve their inflating unit of account?
Posted by TMLutas at March 25, 2004 11:37 AM