Why is the central bank inflation target typically 2%?
Well if you target 0% and any actual result below 0% happens, that's deflation which is a disaster for economies.
If inflation is say 10%. Maximum employment is near certainly impossible. Debt will be expensive and the economy crawls to a halt. Who wants to pay 10% interest on their student debt?
So where in between do you have a good price stability? It tends to be around 2%. It allows for error in measurement, it provides safe cushion.
The USA is at 7% inflation. This means the central bank is not doing their job. They by mandate should have drastically increased interest rates. Inflation almost certainly is out of control now. Looking at central bank balance sheets that are very far from balance, and looking at money supply M2. There's a solid 40% inflation coming. Lets say it sticks to 7%, this inflation will last probably 4 years.
When inflation is so high and interest rates are not. The people winning are those in debt. Which is the government and youngins. However, it also means you cant save money. You must spend money as soon as possible. Tourism is dead for many years.
Flipside, what does this also do? It pressures salaries. You are making 7% less this year but you're making 115% less the next year. So anyone in demand will be in demand and be able to buck the inflation curve.
The people most hurt by high inflation are those who just retired. They no longer can demand more $ for their productivity. Their 'safe' investments are way below inflation. They don't realize yet they cant afford to be retired.
Since you seem quite interested in learning economic fundamentals, I highly recommend you check out the Moody's Talks Inside Economics podcast [0].
One topic they have discussed with fair regularity lately is the current inflation rate. They point out that you can tease out what factors contribute to that 7% inflation number, and once you subtract out 2-3 specific components, components that – with some inductive reasoning – we have good reason to believe are transitory in nature, the inflation number that applies to the broad majority of fundamentals is actually closer to the fed's 2% target.
I'm not an expert in this area and I don't grok the economics on a deep enough level to be able to reproduce their argument in situ here, but their case that the fed's strategy of holding steady is in fact the most responsible thing to do to achieve that 2% target.
>Since you seem quite interested in learning economic fundamentals, I highly recommend you check out the Moody's Talks Inside Economics podcast [0].
Sweet thanks or the recommendation!
>One topic they have discussed with fair regularity lately is the current inflation rate. They point out that you can tease out what factors contribute to that 7% inflation number, and once you subtract out 2-3 specific components, components that – with some inductive reasoning – we have good reason to believe are transitory in nature, the inflation number that applies to the broad majority of fundamentals is actually closer to the fed's 2% target.
That's kind of the complicated thing about these metrics. CPI is often criticized because they already ignore beyond important factors. Like Housing isnt included in CPI? That sure makes CPI a much lower value measurement.
Then people continue to cut out of CPI and oh look we're at 2%? No, we're not. The actual 7% is already too low, the actual number is most likely higher.
>I'm not an expert in this area and I don't grok the economics on a deep enough level to be able to reproduce their argument in situ here, but their case that the fed's strategy of holding steady is in fact the most responsible thing to do to achieve that 2% target.
The Fed in the USA is politically handcuffed and they understand what's happening. There's a geopolitical approach going on, there's a boomer retirement going on, pandemic. lots of factors.
> They by mandate should have drastically increased interest rates.
I disagree, we are having inflation because of supply bottlenecks, not because of demand. Raising interest rates would only make it harder for companies to get finances to ensure supply chains meet demand.
That's if you even believe raising interest rates stops inflation. The correlation between interest rates and inflation over the last 40 years is pretty nil.
> I disagree, we are having inflation because of supply bottlenecks, not because of demand.
I've seen this multiple times but what's the underlying evidence for either side. If demand goes up and the supply can't increase to follow, it'll look like a supply issue but ultimately caused by demand. What's ultimately the difference?
Is the idea that if the supply chain is scaled for X then moving from X-2 -> X is easier then X -> X+2?
> it'll look like a supply issue but ultimately caused by demand
true, but is demand actually higher than pre-pandemic or is it just returning to previous levels (where broken/damaged supply chain issues are now showing up)?
>I disagree, we are having inflation because of supply bottlenecks, not because of demand. Raising interest rates would only make it harder for companies to get finances to ensure supply chains meet demand.
Certainly an interesting take. Not unlike this read from somewhat recent. So you're in good company with your position.
Mind you, basically everyone and their mother has announced new semiconductor fabs. Intel in Ohio recently for example.
I am curious if these are confounding factors. Maybe they will all play against each other. In terms of the 40% inflation locked in. This has nothing to do with supply chain at all. This is private debt to GDP being 235% in the USA. This is the central bank balance sheet being 8 trillion $ in the negative. This is the money supply being 7 trillion in the negative. Pretty standard Quantity Theory of Money
Supply chain isn't a factor yet, this is ~40% inflation locked in. Now if you consider supply chain struggles. It only exacerbates and makes the situation worse.
>That's if you even believe raising interest rates stops inflation. The correlation between interest rates and inflation over the last 40 years is pretty nil.
The correlation has been weaker because they are using these other options to affect macroeconomics. The central banks are beyond bankrupt, but there is no bankruptcy system for them. So instead of fixing the debt situation, you run inflation high and technically you reduce your debt at the expense of those who are holding currency. Primarily retirees are those who are harmed.
Supply bottlenecks is certainly one way to describe a horrific pandemic response, widespread corporate mismanagement, and the fed printer propping up zombie corps.
I keep hearing that people in debt win when inflation goes up but the problem is you only win if you have assets that already appreciate in value or access to large amounts of capital to purchase assets that are inflation resistant. Simple example Tim is a manager at Lowe's Tim makes $66,000, each year. Tim spends most of that money on the necessities of life, a car payment a house payment if he is lucky, a rent if he is not, Tim spends some on groceries and basic living things to support his family. Inflation goes up 10%, Tim's boss fights for Tim and works hard and Tim gets a 7% raise which is unheard of because usually raises are capped at 5% so Tim is very happy. In the meantime his purchasing power has actually decreased.
Contrast this with Larry, Larry is very rich, Larry owns stocks in multiple companies, Larry also owns many assets and has enough capital to move it into other places to protect it against inflation. Inflation goes up 10% Larry's stocks, real estate and other ventures go up 12% because people are trying to find places to park their cash to avoid losing it to inflation.
In the end Larry ends up with substantially more money because he could take advantage of the inflation, and also because of his wealth had access to credit to take advantage of the low interest rates, meanwhile Tim has blown out his savings because his car's transmission gave out and he didn't have the money to buy a new one, and now is riding at the edge of his income because everything went up in price but Tim didn't want to end up enslaved to credit card debt just to continue living and the banks won't give you loans for "hey I need to buy groceries", so he got screwed by it all in the meantime the money and purchasing power Tim lost went to Larry.
So someone help me understand where my understanding is wrong, because yes I agree in a world of airless friction-less vacuums inhabited by spherical cows the inflation is good for debtors but in the world of the real it doesn't seem that way.
Its mostly just "economics 101" stuff; how it plays out in reality is different, and your analysis isn't wrong.
Inflation is good for debtors if wage keeps pace with inflation. That's it.
Taken to the extreme: Imagine I make $100k in 2030. I take out a 1 year loan for $10k @ 5% (10% my income). Inflation is at 50%, but my wages keep up. 2031: I make $150k. I pay back the loan: $10.5k (7% my income). The loan is worth less as a percentage of my income, because of inflation and wages keeping up.
Generally speaking, wages do keep rough pace with broad CPI inflation, if the inflation is slow, predicted, and a product of monetary policy. The issue in today's climate is multifold, but: first, there are critical sectors of consumer goods which are substantially out-inflating even the elevated CPI averages (housing/rent & microchips are the biggest). Second, most CPI-calculated goods are inflating not due to monetary policy, but due to supply-shock, which is harder to mitigate with wage increases because, well, in short, companies can't make money to give workers raises if they can't sell stuff.
No economics is "economics 101" stuff. Economics 101 is a gross over simplification to get students accustomed to basic concepts. There's a reason economics is called the dismal science.
You've got a system where everything is connected to everything else. There is no way you're going know if it's good for you or not. I have a house with a mortgage so inflation is good. If I can keep my job and demand higher wages. But if inflation is high it will put pressure on the fed to bring it down raising interest rates. Higher interest rates mean buyers won't quality for as high of a mortgage and the price of my house goes down. Unless they can also get higher wages to offset inflation. But then the county notices that their coming up short on tax revenue because of inflation and reassess my taxes. But I need a new roof and that just got more expensive. But my 401k is doing great etc, etc.
All of these things are in balance and you have no idea which ones are elastic and which ones aren't. It's like trying to balance a 10,000 leg stool. You can maybe make some gross generalities and even then you're often going to be wrong depending on where you own your home, what businesses are location close to there. What you have your 401k invested in.
Look up the average house price in your area in 2000. Now imagine you were 20 years into a 30 year mortgage. That's a pretty nice house payment, eh? Realistically, it would be even lower because you would have been a fool not to refinance as interest rates plummeted.
This is one way that people with debt "win" due to inflation.
Yeah, rich people benefit more. But that's always been the case. In a deflationary situation, rich people can take dividends from their investments, rather than selling at a discount. While that might be less than they'd normally get, it's much nicer than how wage workers have to work in fear of losing their jobs and having their income go to $0.
You’re mixing several plot lines. Let’s use an extreme example. You owe $100 and make $1 per day with daily living expenses of $1. Tomorrow the government screws up and the $1 bill is replaced by a $1,000,000 dollar bill. Even if you still break even, your $100 debt is now a complete non issue.
It’s not even a cup of coffee, whereas before it was a significant burden. This is true even if your real wages go down, though that’s a problem in its own.
the good for debtors argument fails to realize its only good for your realized debt. its very bad for all future debt ie: young people, poor, people who want to start businesses
Retirees got a 6% Social Security raise this year.
You seem excessively focused on numbers. If you want economic doom and gloom, it's going to be because of what's actually happening, ie there's a pandemic. It's not going to be because a top line number is 7% when it's suffering from composition effects.
>"Well if you target 0% and any actual result below 0% happens, that's deflation which is a disaster for economies."
It's not actually clear that deflation causes economic problems for the commonly cited reason (decrease in consumer spending). I think you're right about most of what you say concerning inflation.
The bigger issue isn't just a decrease in consumer spending; it's a decrease in investment (public markets, private equity, consumer loans, etc). If a bank can just sit on their dollars, and see a guaranteed rate of return potentially higher than a risk-adjusted rate of return after investment, that will happen more often. It trades a reduction in the long-term health of the real economy for an increase in the short-term health of the currency, but over a long enough period of time all currencies are a projection of the health of their real economy.
The Swiss example is a poor one, given the makeup of their economy is nothing like most of the rest of the world, with its bias toward the finance sector. The finance sector would love deflation; they can take no risk and win, or they can take risks (issue consumer loans) and also increase their probability of winning.
All that being said: there's a "correlation not causation" issue in that, the US originally set its "inflation as a target" policy back in the late-60s/early-70s. Ever since then, it doesn't matter what metric you look at, they've all gone sour [1]. Theoretically, causatively, some inflation is good for consumers; but correlatively, its difficult to ignore it as a potential cause for why everything sucks. It's moreso a matter of figuring out... why.
In theory. In reality, customers have a really hard time making loan payments and their collateral no longer covers their debt. I'd say more financial firms have gone bust in a deflationary environment than an inflationary environment.
The economic profession developed some serious deflation PTSD from the great depression. I always heard deflation was bad. Nobody ever seemed to have a great case for why based on good historical data.
Do you see a discernible change in growth trend since the shift to consistent positive inflation? I don't.
To be clear, I'm not saying this is even close to conclusive evidence, I just feel like its a compelling enough side-by-side to warrant further questioning.
The country did spend trillions on COVID relief. I don't think that that qualifies as "monetary policy", but it is something Congress did to keep the economy going.
I think it's hard to say this didn't contribute to the demand side of the equation, since a lot of that COVID relief was put into the pockets of upper middle class small business owners. I personally know of several that are spending their six-figure paycheck protection "bonus" on some of the things that are in short supply right now (i.e., houses, cars, remodeling).
In hindsight, these loans should have never been forgiven.
Afaik spending is referred to as “fiscal policy”. It’s hard to saw what “should” or “shouldn’t be” without being aligned on some objective measurement of outcome. After all, for a given policy change there will typically be winners and losers.
Is -0.1% deflation really that disastrous for economies? Is it really worse than 10% inflation?
I've never experienced it, so can't speak too authoritatively, but it kind of feels like accepted wisdom in the economic academia: so it isn't questioned - but a lot of economics is propaganda for the powerful, IMO - would minor deflation really hurt the common man significantly? Or would it mostly just punish the rich and powerful who are extremely leveraged?
> Who wants to pay 10% interest on their student debt?
Private student debt lenders already can and do charge in excess of 10% (which seems borderline criminal to me)
Yes, it is. I'm no economist but the problem is deflation isn't stable, it tends to run away. It's like standing on a big pile of TNT and saying, "This match isn't really that big of a deal is it?"
In a super simplified example, you have a dollar that's going to be worth more than a dollar tomorrow (the definition of deflation). So maybe you'll wait to buy that shovel till tomorrow. But now less gets done today so tomorrow the money supply is the same but there are fewer things to buy, making your money even more valuable. Then you think, "Shit, things are really looking good for this dollar. If I just hold on to it, it's more valuable then what I was going to do with that shovel" so now you're never going to buy that shovel and pay that person to dig that ditch. So they're just sitting around without a shovel and you're not going to pay someone to just sit around. They'd be perfectly happy to dig that ditch if only they had a shovel, so you lay the person off. Now we have even less productivity and your dollar is looking really good. Next thing you know you realize that every time you shut things down your dollar is looking even better and better. You used to have to work hard for your money but now you're getting rich for not doing something. If you really want to get rich you realize having money is where it's at so you sell off all the shovels you already have for scrap metal, fire all the workers, and sit on the cash.
It's completely perverse. You aren't just paying people to not do anything, you're paying them to destroy productive things. Things that would be good for everyone but while it might be good for everyone in aggregate it's even better for you do do nothing while on a whole most people suffer. So you're sitting in your mansion, doing nothing, amassing a fortune while workers watch as ditches that need to get dug, don't, you're melting down all the shovels, they're unemployed and starving. What do you think the next step is? It's not pretty.
Japan has many problems. Their immense debt basically requires them to have a total tax burden of ~95%. That is to say, you work for the government for the entire year and you dont even get anything for it. They are just paying the interest payments on their debt and dont get services from their government.
Then you have the real factor that as boomers leave the workforce. There isnt enough people to replace them.
The only thing that seems to be keeping Japan afloat is their government owned slaves. Their judicial system still has forced labour and also a 99% conviction rate. Get accused of a crime and you're going to be producing goods for japanese companies. There's also the "technical intern training" which basically enslaves non-citizens and traps them in these jobs for life. The numbers are extremely suspect as well. The number of goods produced and recorded by big entities like their automotive industry or electronics like Sony couldn't possibly have been produced by the these government slaves. Makes you wonder where the forced labour camps are that aren't making it into the numbers.
>I've never experienced it, so can't speak too authoritatively, but it kind of feels like accepted wisdom in the economic academia: so it isn't questioned - but a lot of economics is propaganda for the powerful, IMO - would minor deflation really hurt the common man significantly? Or would it mostly just punish the rich and powerful who are extremely leveraged?
This derives from the fractional banking system. Basically a bank will lend out $20 for every $1 it has. That is to say if they have a 20:1 ratio. The central bank manages this ratio.
The idea is that in a deflationary environment, you kind of break the fractional reality. Interest rates would be bottom or negative. So you are giving money away AND deflating which means the people you give money to can just hold the free money and make money? Who wouldn't jump at such a wonderful thing?
You can see this happening. Germany's 10 year bond right now is -0.065%. So you buy that bond and the person lending you money has to give you 0.065% per year? for 10 years? LOL? Japan is positive at 0.14% but has been awfully negative lately. Obviously Japan/Germany are worse off because they were the losers of WW2. The boomers retiring harms them the most.
To avoid deflation, they are giving away free debt. Why? Debt is money. For every $ that exists, it's just debt. That's the fractional banking system.
the central bank was sold to the public to prevent recessions and bank runs. they haven't done the former, and the latter is very easy to do now that the reserve rate is at 0%. however countries without central banks post 2000 (afghanistan, iraq, libya, north korea, etc) have not fared well against the petrodollar cartel's war machine.
Well if you target 0% and any actual result below 0% happens, that's deflation which is a disaster for economies.
If inflation is say 10%. Maximum employment is near certainly impossible. Debt will be expensive and the economy crawls to a halt. Who wants to pay 10% interest on their student debt?
So where in between do you have a good price stability? It tends to be around 2%. It allows for error in measurement, it provides safe cushion.
The USA is at 7% inflation. This means the central bank is not doing their job. They by mandate should have drastically increased interest rates. Inflation almost certainly is out of control now. Looking at central bank balance sheets that are very far from balance, and looking at money supply M2. There's a solid 40% inflation coming. Lets say it sticks to 7%, this inflation will last probably 4 years.
When inflation is so high and interest rates are not. The people winning are those in debt. Which is the government and youngins. However, it also means you cant save money. You must spend money as soon as possible. Tourism is dead for many years.
Flipside, what does this also do? It pressures salaries. You are making 7% less this year but you're making 115% less the next year. So anyone in demand will be in demand and be able to buck the inflation curve.
The people most hurt by high inflation are those who just retired. They no longer can demand more $ for their productivity. Their 'safe' investments are way below inflation. They don't realize yet they cant afford to be retired.