We Have Always Been at War with Deflation

Posted by Anthony Gregory on March 16, 2011

We are supposed to believe that deflation, sloppily defined as a general drop in prices, is devastating to the economy. Thank goodness we have the Fed and DC central planners to ensure that it never happens. Many individual years in the 19th century saw a drop in prices and economic growth nevertheless continued. Mainstream economists seemingly ignore this and teach us to fear deflation more than inflation.

But how is inflation defined by the mainstream? Again, in terms of prices. This is deceptive, however. Inflation is best seen as an expansion of the money supply. Price increases are simply a symptom of this underlying disease.

And an artificial increase in the money supply is, indeed, a horrible thing. It leads to the business cycle, by encouraging entrepreneurs to invest in projects that cannot be sustained, all the while encouraging people to consume more rather than save. Inflation also helps finance the government way beyond what would be possible with direct taxes alone, as the full financial cost of politicians’ pet projects is obscured. A particular cruelty of inflation is that it punishes those on fixed incomes and the poor and middle class in general, while rewarding the politically connected. The great economist Richard Cantillon identified this phenomenon three centuries ago: What happens is the newly created money first goes to those with an intimate relationship with government and the central bank, who get to spend it before the economy adjusts to the monetary inflation. These favored interests buy goods and services at an effective discount and by the time the money trickles down to the common people, it is worth less, as prices finally rise to accommodate the change in the money supply. Inflation is robbing from the poor and giving to the rich, but only to the rich who have access to the new money—military and civilian contractors, the big banks, and bureaucracies.

And yet the mainstream economists will tell us there is no inflation at all. By excluding all sorts of goods from their analysis, they claim that prices haven’t risen. This ignores the rise in prices for gold, silver, commodities, energy, housing, health care, and other presumably negligible sectors of the economy.

In particular, it seems to ignore the rise in price for food. For years, food prices appeared more stable than they actually were. Groceries and retail food items did not rise in price in part due to innovation and in part, most likely, because of a gradual diminution of quality. If you have ever had the instinct that fast food used to be better than it was, there was a monetary effect you were most likely sensing. Producers hate to raise their prices, and so they cut corners. Candy bars and bags of chips are smaller than before. This is not a conspiracy by food producers. It is primarily one of many problems caused by the Fed.

Yet now we cannot deny that inflation is having an effect. Food prices rose last month more than any time since the 1970s. The Telegraph reports that “the cost of producing finished foods jumped 3.9pc last month from a year earlier.” Fed Chairman Ben Bernanke “insists these sharp rises in costs will prove transitory and will not spiral into a broader price increases across the economy.” While a single major bank or car manufacturer cannot be allowed to fail, we are told, or else the whole economy will crumble into the ground, we are supposed to believe that this general rise in food prices is well under control.

In a free society with sound money, we should expect most prices to drop, year by year. Economic growth means more productivity, and the economy, growing faster than the money supply, would yield the blessings of continually lowering prices. This wonder of the market, especially in the computer sector, where innovations have been amazing, has helped to offset the full effects of monetary inflation. But we are reaching the point where the monetary inflation of government is catching up to the wonders of the market.

Any mild strengthening of the dollar we see now as a result of natural disasters won’t last. There is no way it can persist, when all of economic law is on balance pushing toward devaluation. Inflation eventually destroys a currency and spells ruin for a nation. We were supposed to fear a drop in prices and wages in the wake of the financial collapse, but price deflation is one of the only good things to come from a depression—it is in fact a necessary part of the economic correction, to undo the damage caused by the artificial boom. Our wise leaders in Washington and New York did not want to let that happen. And now we are beginning to see the horrible consequences.

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  • Golin1

    Very interesting perspective. I will investigate deflationary periods in history. I think this is intriguing.

  • Phebe Adams

    Your analysis of inflation is well done, particularly pointing out that it hurts most those on lowest income level as prices of everything they must buy go up and their incomes cannot keep up with it. It also affects businesses in the same way. And as you point out, the quality and quantity become a cost cutting substitute for price increases, particularly in food items, but in everything else, also. A half gallon of ice cream, for instance, is now only 1-1/2 quarts, to avoid a price increase–but then after time, the price goes up, anyway, so one gets hit both ways. This as at the heart of Thomas Jefferson’s hostility to central banks. Ron Paul is right. We need to abolish the Fed.
    And Congress has the power delegated to it to fix COINAGE–but not paper money. The founders had had experience with paper money inflation during our war years. That’s where the expression, I don’t give a Continental comes from–the equivalent of today’s I expression “I couldn’t care less.”

    A more insidious affect of inflation is the spread of a conception that wild growth can go on forever. Nothing grows forever, without limit. Even Redwoods and Sequoia’s, all trees, all animals, humans, have a range of growth beyond which they do not grow. Forgetting that leads to a huge mis-allocation of resources and eventually to the bursting of the bubbles. And now, rather than let deflation take its course, our government is bent on expanding credit again (Monetary supply) as a means to
    try to correct the economic contraction we have experienced. We never learn!

  • Bob H.

    I am familiar with your take on inflation, but comments similar to yours are altogether too rare in the plethora of “conservative” writings I receive (particularly from “conservative” Republican congressmen and other office holders.)

  • Anonymous

    Thank you John Dennis. Its people like yourself who are committed to ‘the cause’ and who stick their necks out that are leading the charge. Once we can eliminate the cancer of Central Banking and their fiat currencies this great country can reverse course and our government can actually represent the people. End the Fed and restore the constitutional money of silver and gold! Go John Dennis!

  • Anonymous

    Governments strongly prefer inflation to deflation because inflation reduces the value of the debt and enables repayment with cheaper dollars. Imagine what would happen if the U.S. government said every million dollars is now worth 1 dollar — the national debt would go from $14 trillion to $14 million! (And the amount I owe on my house would go from $400,000 to 40 cents.)

    Of course, the government won’t do it like that. Instead, they’ll eat away at the debt by inflating our currency — which is called “monetizing the debt” — at 10% to 15% per year. And any payments indexed to inflation (such as Social Security) will be paid according to the government’s measure of inflation, which they deliberately control to be lower than actual.

    So the government can talk all it wants about protecting poor and middle-income people, but the disastrous consequences of their actions will fall hardest on those they claim to defend.

    But because most people are ignorant of these fundamentals, they blindly support politicians on BOTH sides of the aisle who offer government-funded programs in exchange for votes.

  • Government Funded Courses

    I agree with Phebe Adams
    Government Funded Courses

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