The real problem behind inflation

[grondilu]

Most of the time when I read an article or watch a video about how terrible is inflation to economy, I kind of feel that there's something missing.

Usually the author insists on how much the price of goods can have increased in, say, fourty years, and therefore how futile it is to save money.  But who saves money for fourty years anyway ?  I mean, there are certainly many better long term savings than cash.  Nobody saves large amounts of money for that long.

To me, the most obvious problem with inflation is the theft of value from the money printers.  And this occurs in real time, not with a 40 years delay.  When a banker receive some freshly printed money from a central bank, this money looks exactly identical to currently existing money.  Thus, this guy can obtain some good or services, ie real value, for this money, although this money has been obtained with absolutely no counterparting real value, apart from the pressing of a button.

When some banker wants his shoes to be polished, all he has to do is to print money and to give it to a shoeshiner.   The shoeshiner is immediately stolen, although he will probably realize that in a few years, when he witnesses inflation.  This, is what's outrageous with inflation.

This is not rethoric.   I used to work in an investment bank and I was personnaly advised not to seek a job in an other sector because it was important to stay "near from the tap".   Money supply was compared to a tap from which it was crucial not to be too far away.  Do we really need a better explanation of how corrupted is this system ?

[hugolp]

Its even worse.

Not only inflation steals from some to give to a few (as you describe it), but it also makes the economy underperform because it creates malinvestments and in extreme cases bubbles. So its not only stealing a part of the pie for a few, its making the pie smaller or not as big as it could be.

Inflation really makes the middle class and specially the poor miserable.

[caveden]

Its even worse.

Not only inflation steals from some to give to a few (as you describe it), but it also makes the economy underperform because it creates malinvestments and in extreme cases bubbles. So its not only stealing a part of the pie for a few, its making the pie smaller or not as big as it could be.

Exactly. In central banking, Keynesian systems, inflation is used to manipulate the interest rate. The interest rate is a fundamental price that guides people planning in what concerns time. ("The market coordinates time with interest" http://www.youtube.com/watch?v=d0nERTFo-Sk )

Inflation alone is bad thing because it's a "hidden tax". Taxes are all bad, and the more hidden they are, the worse. But inflation in our current system is even worse, as it creates business cycles that end up destroying lots of capital.

[Hal]

I don't think it works that way. The banker can't get a shoe shine with the new money, because it does not belong to him. It belongs to the bank. And what the bank does with the new money is lend it out.

[caveden]

I don't think it works that way. The banker can't get a shoe shine with the new money, because it does not belong to him. It belongs to the bank. And what the bank does with the new money is lend it out.

Who really creates new money is the state through the central bank, not bankers.* And it does use it as a form of spending since the central bank is constantly buying state debt, and when the debt bonds expire in the hand of the central bank, the treasury doesn't pay for it (as it would be the state paying to the state...). Inflation is also hidden tax. And it's worse than that, due to the reasons explained above.

* Okay, when the compulsory decreases, banks do create new money through the fractional reserve system. But the compulsory stays constant most of the time. It's the central bank that really drives inflation.

[ZeroPoint]

Who really creates new money is the state through the central bank, not bankers.

And the difference between the state and the bankers is...??

We use these names like 'the state' and 'the banks' as abstract concepts, but the actions are all done by people -- people who are part of the state gang, people who are part of the banker gang.

Often the same people belong to both gangs, e.g., the 'revolving door' between Goldman Sachs, the USFed, and the USDeptTreasury.  These people are criminals.  They may have bent the government law to make their actions 'legal', but a thief is a thief, no matter whether the theft has been 'legalized' or not.

We speak with great reverence of this thing called "the law," as if it is the decree of the gods, which no decent human being would dare to disobey. But what is it really? It's whatever the politicians decide to command you to do. Why on earth would anyone think that obedience to a bunch of liars and crooks is some profound moral obligation? Is there any reason for us to treat with reverence such commands and demands? No rational reason, no.  The only reason we do it is because we have been trained to do it.

Some might point out that obeying the laws against theft and murder is a good thing to do. Well, yes and no. It is good to refrain from committing theft and murder, but it is NOT because "the law" says so. It is because theft and murder are inherently wrong, as they infringe upon the rights of others. And that was true before any politician passed a "law" about it, and will be true even if they "legalize" theft and murder (as every government has done, in the name of "taxation" and "war"). What is right and wrong does not at all depend upon what is "legal" or "illegal." And if you need POLITICIANS to tell you what is right and what is wrong, you need your head examined. Instead, you should judge the validity of so-called "laws" by whether they match what is inherently right and wrong.

--Larken Rose (see the link in my signature below)

[grondilu]

I don't think it works that way. The banker can't get a shoe shine with the new money, because it does not belong to him. It belongs to the bank. And what the bank does with the new money is lend it out.

The banker is the closest person from the money supply.  His salary is paid directly with it.  Again, a financial director from an investment bank told it to me himself : "stay near from the tap".

[caveden]

Who really creates new money is the state through the central bank, not bankers.

And the difference between the state and the bankers is...??

hehehe, okay, fair enough...

[Sjalq]

You can of course exploit the system yourself. Which adds a welcome libertarian scent to the situation.

All money is debt based. When you loan money to buy a house or a car it is created in that instance. The only difference between your debt and the debt the bank uses to consolidate real assets to itself is the interest rate. Banks and governments pay almost no interest and generally at a rate lower than the inflation of the money supply. Once in control of real assets bought with funny money their debt is no longer a problem.

The "good" news about this is that the same mechanism is available to you and me. We to can get loans, effectively printing money from nothing which we can use to acquire assets. At higher interest rates we need to be more selective about our asset choices but it can and has been done. We are also not at the mercy of the interest rates we are offered. Once you understand the bureaucracy a bit there are really amazing deals available.

[hugolp]

All money is debt based.

This is not really true even in a central bank system. The fractional banks protected by a central bank do create money through credit, but that does not mean all the money in circulation is debt based, just most of it.

And during this crisis it has become evident that considering only the banking system as the source of money in the present monetary system will make you get the economy wrong. Understanding the present banking system is important, but there are more parts to the monetary system. If money was all debt and the banking system was the only way to create/destroy money there would be heavy deflation right now. But there is not.

[Sjalq]

All money is debt based.

This is not really true even in a central bank system. The fractional banks protected by a central bank do create money through credit, but that does not mean all the money in circulation is debt based, just most of it.

And during this crisis it has become evident that considering only the banking system as the source of money in the present monetary system will make you get the economy wrong. Understanding the present banking system is important, but there are more parts to the monetary system. If money was all debt and the banking system was the only way to create/destroy money there would be heavy deflation right now. But there is not.

There is heavy M3 deflation right now. Or rather there is suspected heavy M3 deflation right now, since the fed no longer measures it. It is one of the reasons the Fed can temporarily get away with monetizing government debt. It is simply keeping trying to keep the money supply stable by creating money via gov debt instead of private debt.

If you say there is money that is not backed by a debt instrument I would like to see an example? The only exception I know of is the very small pile of gold central banks still hold because they know they cannot trust each other.

[caveden]

If you say there is money that is not backed by a debt instrument I would like to see an example?

The compulsory reserves banks hold on the central bank.

[hugolp]

There is heavy M3 deflation right now. Or rather there is suspected heavy M3 deflation right now, since the fed no longer measures it. It is one of the reasons the Fed can temporarily get away with monetizing government debt. It is simply keeping trying to keep the money supply stable by creating money via gov debt instead of private debt.

If you say there is money that is not backed by a debt instrument I would like to see an example? The only exception I know of is the very small pile of gold central banks still hold because they know they cannot trust each other.

When the central bank monetizes the government debt, that is the government printing money, there is no debt there. Now you are saying hey! you just said the central bank bought government debt. Lets see:

The central bank buys government bonds and, in the mid-long term, never sells them. If you check any central bank, they just keep buying more and more government debt. There are some short term operations where they sell gov bonds, but in the mid-long run they always increase the amount of bonds. When the bonds mature they renew them. In the mid-long run, central banks always increase their bond holdings. So basically the government is never going to return the principal on a monetized bond, because its always going to be renewed.

Now what about the interests? The interests the government pays on the bonds are central bank profits. The central bank profits go back to the government (check the law). So basically the government gets back the interest, its like it does not pay it.

So when the central bank monetizes government debt, neither the pricnipal nor the interests are going to be payed in reality. So basically its not debt, its an accounting trick. The central bank uses the government debt as collateral to increase the money supply.

If you still think monetizes bonds are debt, I will borrow from you all the money you have in those conditions (not repaying it and not paying the interests). When the central bank monetizes government bonds its equivalent to the government printing money.

[caveden]

So when the central bank monetizes government debt, neither the pricnipal nor the interests are going to be payed in reality. So basically its not debt, its an accounting trick. The central bank uses the government debt as collateral to increase the money supply.

Yeah, but still, that's the monetary base... as soon as it reaches banks, through the fractional reserves system, most of this increase in money supply becomes debt... (at least until before 2008 it did )
Only the compulsory reserves remain, which normally is a small fraction.

[fergalish]

You know, I mostly agree - inflation is a hidden tax.  Only it's worse, it's like a cumulative tax.  If you earn €100k and pay income tax of 40%, then you get €60k in your pocket.  But with inflation, that €60k is taxed again, and then next year, again, and then again and again and it never stops until a year's work is worth the price of a loaf of bread.

But, just in the spirit of discussion, I'd like to say something.  In order to have a functioning economy, people must spend their hard-earned money (and by "money", I mean anything that is generally accepted as payment for goods or services).  However, in deflationary or zero-inflation situations, there is no incentive to spend extra money.  I, for example, hate to have money in the bank or even in my pocket, now, because real inflation is huge (what, it must be at least 5 or 6% - not official inflation figures, but real inflation).

So, this incentive to spend (related to "the velocity of money" or how many times a single note is spent in the year) is high right now on account of inflation, even though there is a huge lack of liquidity.  If people had money now, inflation would cause them to spend and the economy might just recover.  It's just that there's no money in the general economy - all the bailouts etc went either into bankers' bonuses, or to shore up bank reserves in the wake of the real estate crash.

Now, what about bitcoin?  If all goes according to plan, there'll never be any long-term inflation.  Therefore we can assume that people will only spend what they consider necessary, and save the remainder for a rainy day.  The velocity of money will be much lower, and the relatively fewer bitcoins that do circulate will have to represent much more wealth than otherwise.

So maybe inflation isn't *all* bad, as long as it's kept to some reasonable value - the ECB's target, I think, is to keep it below 2%.

Comments?

[caveden]

You know, I mostly agree - inflation is a hidden tax.  Only it's worse, it's like a cumulative tax.  If you earn €100k and pay income tax of 40%, then you get €60k in your pocket.  But with inflation, that €60k is taxed again, and then next year, again, and then again and again and it never stops until a year's work is worth the price of a loaf of bread.

This is "simple inflation", not exactly what we have in central banking economies.
In our current system, it's worse than a commutative-hidden-tax. They use inflation to lower the interest rates which provokes business cycles and lots of capital destruction.

However, in deflationary or zero-inflation situations, there is no incentive to spend extra money.  
...
Comments?

This is fallacy spread by Keynesians. There are many other topics on this very forum explaining why this is wrong, and you'll certainly find good articles on the web. Check www.mises.org for example, there are very good articles there on the subject.
Just think of hightec products... their productivity raises even higher than inflation, what make their prices deflationary. And that doesn't prevent people from buying them...
And by the way, savings is good. That's what feeds investments which bring economic growth.

[grondilu]

So maybe inflation isn't *all* bad, as long as it's kept to some reasonable value - the ECB's target, I think, is to keep it below 2%.

Comments?

I don't agree at all.  This has been discussed many times on this forum.


All money is a debt from society to its owner.  Thus, someone who hoards money without actually spending it, is actually freeing society from this debt.  There is nothing wrong in that.

This 2% target comes out from nothing.  It is actually a theft of increasing productivity which should normally make prices reduce.

You don't have to give people any incentive to spend money whatsoever.  Who are you to tell them what they should do ?  If they want to spend money only for what they think is absolutely necessary, it is their right.  Don't you believe in freedom at all ?

Why don't you just have police beat them in order to force them to go shopping ?  It would be much simpler.

[ribuck]

... inflation would cause them to spend and the economy might just recover ...

It's a misconception that "the economy" is an entity of its own, that it is anything other than the aggregate of what is done by people. You are essentially saying that people should be forced to do something other than what is in their best interests, for the benefit of a statistic called "the economy".

But if "the economy" can only show the statistics that you want to see, when society is structured against the best interests of the people within it, then I think you're looking at the wrong side of the equation.

[grondilu]

It's a misconception that "the economy" is an entity of its own, that it is anything other than the aggregate of what is done by people. You are essentially saying that people should be forced to do something other than what is in their best interests, for the benefit of a statistic called "the economy".

But if "the economy" can only show the statistics that you want to see, when society is structured against the best interests of the people within it, then I think you're looking at the wrong side of the equation.

I think the keynesian's point of view is the one of a farmer.  Sure, a farm would be a mess if cows were free to do what they want, and if chickens could just wander everywhere they want.

But we are not cows, nor chickens, damned it.

[FreeMoney]

... inflation would cause them to spend and the economy might just recover ...

It's a misconception that "the economy" is an entity of its own, that it is anything other than the aggregate of what is done by people. You are essentially saying that people should be forced to do something other than what is in their best interests, for the benefit of a statistic called "the economy".

But if "the economy" can only show the statistics that you want to see, when society is structured against the best interests of the people within it, then I think you're looking at the wrong side of the equation.

Absolutely. There is nothing that is good for my family that is bad for my family members. There is no such thing as hurting the trees to help a forest. If you want to help then help individuals; they actually exist.