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Worrying About Demand-Pull Inflation Is A Distraction

letsgetitdone's picture

One commenter at FireDogLake says:

”. . . we should be exceptionally careful not to jeopardize the hard-fought for benefits (like S.S.) by risking devaluation of the dollar. That would be truly tragic.”

and another at New Economic Perspectives says about Modern Monetary Theory (MMT) and inflation:

”Help me understand more about MMT. I understand in principle that the US government can spend without borrowing and that spending on the social safety nets that we would try to improve rather than tear down is a political choice. But MMTers continually say that money is not limited with no caveats. Occasionally one will admit that too much spending may lead to inflation through devaluation. That implies a near-term limit that is very often not acknowledged.”

MMT doesn't ignore demand-pull inflation. But a lot of blogging about it now would be purely academic since we're so far from the full production/full employment conditions under which it would occur. Here, here, here, here, and here, are five links to posts by MMT supporters which themselves provide links to other posts. They show unequivocally that MMT is concerned about inflation of all types, and has taken considerable time and trouble to understand it and specify the conditions under which the different types of inflation, including demand-pull inflation would occur.

There hasn’t been serious demand-pull inflation in this country since WWII. In Carter’s time, drastic increases in oil prices, not Government deficit spending, drove up prices. That instance of cost-push inflation would have been resolved with a one time price and wage adjustment. However Paul Volcker, the new head of the Federal Reserve, decided to try to use monetary policy to control inflation and began to raise interest rates. This silly move actually “fed” inflation and prevented it from petering out. There were multiple rounds of drastic interest rate rises. Businesses fought the increase in their interest costs by raising prices. Finally, rates went up to too high a level for businesses to compensate by raising prices. The result was a recession that partly accounts for Carter’s defeat and a bad few years for Reagan, until Volcker decided he had wrung inflation out of the economy and lowered rates. By this time there was a lot of pent-up demand, so the economy boomed when he did that, just in time for Reagan’s “morning in America” and his big victory in 1984.

Through all this, Social Security cost-of-living increases kept pace with rising prices, since its adjustment formula is based on wage levels. There’s no reason to think that cost of living raises in SS won’t be able to keep pace with any new demand-pull inflation, which, there is no risk of until we reach full use of our production capacity and full employment.

Again, concern about demand-pull inflation at this point is a distraction. That’s not our problem. All the concern about it is a waste of ink or at least bits.

Cost-push inflation is a different issue. We’re getting some of this with oil and related products now. However, that kind of inflation, is unrelated to whether we have Government spend while issuing new debt, or use coin seigniorage, or pay down our existing national debt, both without issuing new debt. There is neither good theory nor any empirical evidence that Government deficit spending using any of these three measures causes inflation in a nation sovereign in its own non-convertible currency, using a floating exchange rate, having no external debt in anything but its own sovereign currency, and experiencing slack aggregate demand of some 30%.

So, my advice is, stop looking under the bed for the bogeyman, and start fighting the moral monsters we must face now, a depressed economy, a depressed labor market, a democracy on the edge of a kleptocracy, populated by politicians who claim they will fix our economy and create jobs by transferring wealth from the have-nots to the already wealthy, and the prospect of ruined futures for both poor and middle class Americans, both young and old. It is a herculean task to solve these problems, we have no time or resources to look under the bed for bogeymen that are not there.

(Cross-posted at All Life Is Problem Solving and Fiscal Sustainability).

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