26 March 2009

Inflation is Coming! Inflation is Coming! Everybody to Get From Street


The laissez faire moneterist dingos are loose in the neighborhood, braying that the stimulus will cause inflation and hurt pensioners on fixed incomes!! They're at it again, protect your women and children. The only ones the dingos are trying to protect are Park Avenue coupon clippers.

The forthright economist, that black swan among the white horde, will tell you that there are three sources (or kinds) of inflation: wage push, cost push, and demand pull. The dingos traditionally only talk about wage push. And they're wrong again.

Since the Reagan/PATCO tango, wage push inflation has disappeared. In 2008 (BLS data), 12.4% of workers were in unions. The number for 1980 was 23.6%. It is no coincidence that median income has fallen during this period. For wage push inflation to happen, one event must happen: workers across the board must receive wage increases in excess of productivity gains. For that to happen one of two events must happen: workers negotiate the increase, or workers disappear from the workforce driving up wages for those that remain. Negotiations for increases are not going on, and it was seen that the rise in wages which first created a middle class in Europe was driven by the massive reduction in the workforce by plagues. In today's terms, an all out war between India and China would do nicely. In fact, productivity gains have not been going to wages, and median income has fallen. In 2009, there exists no mechanism for wages to push inflation; in fact, the out sourcing boom to Asia has deflated wages and will continue to do so.

Cost push is the source of stagflation in the 1970's. The economists who worked as mouthpieces for corporations kept saying that stagflation couldn't be explained. Well, of course it could. If the primary driver of society, petroleum, goes scarce and expensive, the inevitable result is no growth and inflation. But those economists who pointed this out were labeled socialist or communists (this was still in vogue). The out of control increases of last summer in gasoline and related were due to manipulated markets; classic cost push.

Demand pull happens when consumers suddenly have more money while production is running at full capacity. How does this happen? As anyone who has seen Shiller's graph of housing prices 1890 to 2006 (or lives in areas subject to localized inflation such as Washington, DC) can see that too much money can be thrown at a particular good or service. The housing rocket can be credited to easy credit, the appearance of more money chasing too few goods; the price (contracted price) of housing went up, but the *expenditure* didn't initially. When the *expenditure* was ratched up by the contracts, the houses of cards collapsed and deflation set in. Equally, there have been continuing reports that hedge funds and institutional investors are parking in cash and government securities, waiting for the stock market to "turn around". Their withdrawl of cash caused deflation in stocks. It was the influx of that Global Pool of Money (of NPR fame) into the stock market which caused it to soar. This was sector specific inflation, by any other name, but since it advantaged the stock mavens, it was never described as such.

These holders of cash don't admit that the stock market is, by definition, a pyramid scheme. Under most circumstances, such large holders of cash control the scheme and manage to benefit both when it expands (inflation) or contracts (deflation). Fiduciary investing isn't investing in the real economy after all; excepting the rare public offering, none of the money involved in stock trading goes to the corporations for plant, equipment or any real capital. The rise in stock price does benefit those managers with low strike price options, of course. The rise or fall in the (equity) stock market is just sector specific inflation and deflation. Putting money in the stock market is toward reaping capital gains, not dividends. Reaping capital gains is a euphemism for the pyramid scheme. Or, as my Pappy used to say: "genius is a rising market". Warren Buffett has been a genius.

So, how does the government printing press affect the consumer price index, by far the most common gauge of inflation? It doesn't in any direct way since the money isn't distributed to normal consumers. The trillion dollar, or whatever it turns out to be, financial sector bailout can only affect the CPI if the cash gets into the hands of consumers, those lowest on the totem pole schlubs who have been studiously ignored so far. Nothing about the bailout, and little about the stimulus will do this. The real problem that may surface is, if the cash is not horded by those receiving it (which has been the case so far) and does make its way into the hands of consumers, on what will consumers spend? Only if they buy goods and services of American manufacture will the stimulus have any useful effect. Retailers, who don't care where the goods come from, will benefit. Retailing employment is low skill, low wage however; it cannot be the engine to a new American supremacy. The most likely scenario, and actually hoped for by some, is that the stock market with be the object of this massive cash pile. Those who buy in early will see the capital gains. That 401(k) you've been depending on may recover. Consumer prices will be less likely to take the hit, just because the cash is not being funneled to Main Street, but Wall Street. To the very folks who caused the implosion; I guess in the hope that they will generate a new explosion.

Moneterists managed, mostly through the wily Milton Friedman, to turn a tautology into a theory. The tautology is that the stock of money divided by the stock of goods and services yields the price level. The implicit price deflator is just that. The theory is that controlling the money supply affects the real economy. But, money, income, and wealth are relative values; they adjust themselves relative to the real economy. A new gold mine in this country, holding ten times the current world stock, would not make us any better at building real things. It would only ratchet down the value of gold. As Goldfinger understood, destroying the stock at Fort Knox would increase the value of remaining gold stocks, and would not change the productive capacity of the country.

Only fiduciary capital that is used to create real capital has a real impact. Monetary fluctuations matter only when they cause the diversion from real investment to solely fiduciary investment, such as has happened in the last decade. Bubbles are the result. Hyperinflation, as has been experienced at various times and places, makes for inconvenient commerce, but nothing more. For those who live off unearned income, capital gains from stock in particular, want increasing capital values but static prices. Since they lack skills for which they could be paid wages, growth of the real economy is of no consequence. The real problem in such times is autocratic government/business behaviour.

14 April 2009, the Producer Price Index continues to fall. If, and when and not until, any of this stimulus gets into the hands of consumers can there be an inflationary trend. The bailouts have not done so, nor will they. The essay on who benefits from deflation needs writing. I'd better get to it.

15 April 2009, Consumer Price Index falls.

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