[ExI] A little Inflation can be good

John Clark johnkclark at gmail.com
Sun Oct 27 17:35:28 UTC 2013

 The following was the lead article on the front page of today's New York

WASHINGTON — Inflation is widely reviled as a kind of tax on modern life,
but as Federal Reserve policy makers prepare to meet this week, there is
growing concern inside and outside the Fed that inflation is not rising
fast enough.
 Inflation Fails<http://www.nytimes.com/interactive/2013/10/27/business/economy/inflation-falls.html?ref=economy>

Some economists say more inflation is just what the American economy needs
to escape from a half-decade of sluggish growth and high unemployment.

The Fed has worked for decades to suppress inflation, but economists,
including Janet Yellen, President Obama’s nominee to lead the Fed starting
next year, have long argued that a little inflation is particularly
valuable when the economy is weak. Rising prices help companies increase
profits; rising wages help borrowers repay debts. Inflation also encourages
people and businesses to borrow money and spend it more quickly.

The school board in Anchorage, Alaska, for example, is counting on
inflation to keep a lid on teachers’ wages. Retailers including Costco and
Walmart are hoping for higher inflation to increase profits. The federal
government expects inflation to ease the burden of its debts. Yet by one
measure, inflation rose at an annual pace of 1.2 percent in August, just
above the lowest pace on record.

“Weighed against the political, social and economic risks of continued slow
growth after a once-in-a-century financial crisis, a sustained burst of
moderate inflation is not something to worry about,” Kenneth S. Rogoff, a
Harvard economist, wrote
“It should be embraced.”

The Fed, in a break from its historic focus on suppressing inflation, has
tried since the financial crisis to keep prices rising about 2 percent a
year. Some Fed officials cite the slower pace of inflation as a reason,
alongside reducing unemployment, to continue the central bank’s stimulus

Critics, including Professor Rogoff, say the Fed is being much too meek. He
says that inflation should be pushed as high as 6 percent a year for a few
years, a rate not seen since the early 1980s. And he compared the Fed’s
caution to not swinging hard enough at a golf ball in a sand trap. “You
need to hit it more firmly to get it up onto the grass,” he said. “As long
as you’re in the sand trap, tapping it around is not enough.”

All this talk has prompted dismay among economists who see little benefit
in inflation, and who warn that the Fed could lose control of prices as the
economy recovers. As inflation accelerates, economists agree that any
benefits can be quickly outstripped by the disruptive consequences of
people rushing to spend money as soon as possible. Rising inflation also
punishes people living on fixed incomes, and it discourages lending and
long-term investments, imposing an enduring restraint on economic growth
even if the inflation subsides.

“The spectacle of American central bankers trying to press the inflation
rate higher in the aftermath of the 2008 crisis is virtually without
precedent,” Alan Greenspan, the former Fed chairman, wrote in a new book, “The
Map and the Territory<http://www.nytimes.com/2013/10/21/books/the-map-and-the-territory-by-alan-greenspan.html>.”
He said the effort could end in double-digit inflation.

The current generation of policy makers came of age in the 1970s, when a
higher tolerance for inflation did not deliver the promised benefits.
Instead, Western economies fell into “stagflation” — rising prices, little

Lately, however, the 1970s have seemed a less relevant cautionary tale than
the fate of Japan, where prices have been in general decline since the late
1990s. Kariya, a popular instant dinner of curry in a pouch that cost 120
yen in 2000, can now be found for 68 yen, according to the blog Yen for

This enduring deflation, which policy makers are now trying to end, kept
the economy in retreat<http://www.nytimes.com/2010/10/17/world/asia/17japan.html?_r=1&ref=business&pagewanted=all>as
people hesitated to make purchases, because prices were falling, or to
borrow money, because the cost of repayment was rising.

“Low inflation is not good for the economy because very low inflation
increases the risks of deflation, which can cause an economy to stagnate,”
the Fed’s chairman, Ben S. Bernanke, a student of Japan’s deflation, said
in July. “The evidence is that falling and low inflation can be very bad
for an economy.”

There is evidence that low inflation is hurting the American economy.

“I’ve always said that a little inflation is good,” Richard A. Galanti,
Costco’s chief financial officer, said in December 2008. He explained that
the retailer is generally able to expand its profit margins and its sales
when prices are rising. This month, Mr. Galanti told analysts that sluggish
inflation was one reason the company had reported its slowest revenue
growth since the recession.

Executives at Walmart, Rent-A-Center and Spartan Stores, a Michigan grocery
chain, have similarly bemoaned the lack of inflation in recent months.
 Inflation Fails<http://www.nytimes.com/interactive/2013/10/27/business/economy/inflation-falls.html?ref=economy>

“Let me just remind everyone that inflation falling below our target of 2
percent is costly,” Charles L. Evans, the president of the Federal Reserve
Bank of Chicago, said in a
Madison, Wis., this month. “If inflation is lower than expected, then
debt financing is more burdensome than borrowers expected. Problems of debt
overhang become that much worse for the economy.”

Inflation also helps workers find jobs, according. to an influential 1996
the economist George Akerlof and two co-authors. Rising prices allows
companies to increase profit margins quietly, by not raising wages, which
in turn makes it profitable for companies to hire additional workers. Lower
rates of inflation have the opposite effect, making it harder to find work.

Companies could cut wages, of course. But there is ample evidence that even
during economic downturns, companies are reluctant to do so. Federal data
show a large spike since the recession in the share of workers reporting no
change in wages, but a much smaller increase in workers reporting wage
cuts, according toan analysis by the Federal Reserve Bank of San
Francisco.There is, in practice, an invisible wall preventing pay cuts. The
standard explanation is that employers fear that workers will be angry and
therefore less productive.

“I want to be really careful about advocating for lower wages because I
typically advocate for the other side of that equation,” said Jared
Bernstein, a fellow at the left-leaning Center on Budget and Policy
Priorities and a former economic adviser to Vice President Joseph R. Biden
Jr. “But I think higher inflation would help.”

The Anchorage school board, facing pressure to cut costs because of a
budget shortfall, began contract negotiations with its 3,500 teachers this
year by proposing to freeze rather than cut wages. The final deal,
completed last month, gives the teachers raises of 1 percent in each of the
next three years.

Teachers, while not thrilled, described the deal as better than a pay cut.
But it is likely, in effect, to cut the teachers’ pay. Economists expect
prices to rise about 2 percent a year over the next three years, so even as
the teachers take home more dollars, those dollars would have less value.
Instead of a 1 percent annual increase, the teachers would fall behind by 1
percent a year.

“We feel like this contract still allows us to attract and retain quality
educators,” said Ed Graff, the Anchorage school district superintendent.

In June, Caterpillar, the industrial equipment maker, persuaded several
hundred workers at a Wisconsin factory to accept a six-year wage freeze.
The company described the workers as overpaid, but it did not seek direct

The slow pace of inflation, however, minimizes the benefits. Seeking
further savings, Caterpillar has since laid off almost half of the workers.
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