What Did My Parents Ever Do to the Federal Reserve?

That is the question I am left asking after considering various claims about the supposed worrisome consequences of lower prices. David Blanchflower calls price deflation "a major economic pandemic spreading thoughout the world." Justin Wolpers likewise warns us of deflationary expectations. Financial advisor Bert Whitehead asserts, "we really have a danger of deflation world-wide." The solution for those who share the fear is always the same, create more money, stimulate more spending, and higher prices will follow. Bank of England Governor Mark Carney soothes deflation worries, for example, not by acknowledging that falling prices are not socially harmful, but by assuring us that Europe will get back to price inflation soon.

As I said, after all of this chatter, I am left wondering about the ethics of purposely reducing the purchasing power for those who have worked hard and saved all their lives. Higher prices do not, in fact provide prosperity, but instead result in increasing economic hardship for people like my parents. In my latest column for the Grove City College Center for Vision and Values I conclude:

. . .Mom and Dad had the foresight and character to make the sacrifices necessary to stay out of debt. Indeed, they are Paul Krugman’s worst nightmare—a family determined not to live beyond their means. Now retired, like many in their generation they are enjoying life the best they can on an almost fixed income. Because they have no debt, they have been able to live without tremendous economic hardship thus far. The Federal Reserve’s inflationism, however, increasingly makes life for them more difficult as steady price inflation daily chips away at their livelihood. Since 2009, for example, the Consumer Price Index has increased over nine percent. This masks, however, significantly larger price increases for important necessities. Prices of dairy products are up almost 17 percent since 2009. Gasoline prices are up almost 11 percent despite the recent decline. Prices for meat, poultry, fish, and eggs have increased a whopping 26 percent since 2009. Higher overall prices do not help people like my parents at all. They instead act as a thief, snatching wealth away from them in the form of diminished purchasing power. What they long for is to see the value of their savings increase. Far from creating economic hardship for them, lower overall prices would be a boon.

Both sound economics and ethics, therefore, demand that we give up the anti-deflation rhetoric and the inflation it fuels. Charity demands that we cease striking fear into the hearts of the masses, softening them up for ever higher prices. The Federal Reserve should stop punishing people like my parents who have worked hard and played by the rules their whole lives. After all, what did they ever do to Greenspan, Bernanke, and Yellen?

Read the rest here.

We Can Sleep Well with Yellen at the Helm

The editor at Against Crony Capitalism show us this revealing graph of the history of consumer prices since 1775:

Boy I am so happy that Fed Chair Janet Yellen is on the look out protecting us from deflation. Clearly lower prices has been the bain of our economic existence. If you are like Violet in A Charlie Brown Christmas*, the previous was sarcasm.

* 
Don't you know sarcasm

Ritenour on Power Trading Radio

Yesterday I was the guest on Power Trading Radio co-hosted by John O’Donnell and Merlin Rothfeld. Fun fact: John O'Donnell received his B. S. in science from Southwest Baptist University, where I used to teach before coming to Grove City College.

We talked about government statistics, the Federal Reserve, and the needless fear of lower prices. You can listen to the program by clicking here. The program often features Austrian economists on Friday afternoons at 6:00 pm Eastern and listeners can submit questions to the experts.You can watch a video of my appearance on the show by going to this page.

Was Mises Clueless about Currency Devaluation?

The Market Monetarist thinks so. Responding to an excerpt from Mises' Human Action discussing currency devaluation, he claims that Ludwig von Mises was "clueless about the effects of currency devaluation."

His basic claim is that Mises

forgets the real reason why it might make perfectly good sense to allow the currency to weaken. If monetary policy has caused nominal GDP to collapse as was the case during the Great Depression (or during the the Great Recession!) then a policy of devaluation is of course the policy to pursue. Hence, von Mises totally fails to understand the monetary implications of devaluation.

The author says that the reason for this lack of understanding is that Mises and Rothbard both had a hard time understanding there is good and bad deflation.

What are we to make of this criticism? In the first place, the author overstates his claim about the cluelessness of Mises. The word clueless means just what it says: clue-less, as in without a clue. It is clear from the Market Monetarist's post that not even he thinks that Mises was literally without a single clue about currency devaluation and deflation. One could just as accurately claim that the Market Monetarist is clueless about Mises and Rothbard. Neither claim would be true. To be mistaken about something is not to be necessarily clueless.

To move past rhetoric and into economics, it should be noted that Joseph Salerno has done excellent work in helping us understand the difference between "good and bad deflation." In his article, "An Austrian Taxonomy of Deflation--with Applications to the U.S" Salerno documents that both Mises and Rothbard did distinguish between benign and undesirable inflation, noting that both explicitly criticized intentional deflationary central bank policies.

Both, for example, thought Great Britain made a mistake when it sought to return to the gold standard at the pre-WWI parity. This required a serious price deflation which contributed to economic disruption. "The sensible thing to do," wrote Rothbard in What Has Government Done to Our Money?, "would have been to recognize the facts of reality, the fact of the depreciated pound, franc, mark, etc., and to return to the gold standard at a redefined rate: a rate that would recognize the existing supply of money and price levels."

The Market Monetarist then cites George Selgin's "great discussion" of Mises's views about deflation, noting Selgin conlcudes that Mises, given his perspective on deflation, should have embraced a monetary policy aimed at stabilizing nominal spending. Jeffrey Herbener has criticized Selgin's (and Larry White's) interpretation of Mises' views on gold and money in "Ludwig von Mises on the Gold Standard and Free Banking." Herbener's analysis indicates that Selgin's and White's interpretation of Mises may not be wholly accurate after all, but are, in fact, "dubious."

Specifically on the point of nominal income stabilization, he documents that Mises' proper understanding of the non-neutrality of money precludes nominal spending stability as the target to pursue for a healthy economy. Citing Mises' Theory of Money and Credit, Herbener explains,

Only if one assumes that goods-side influences are unchanged can he identify, from any change in price, the money-side influence. But goods-side influences are in continual flux and indissolubly intermixed with money-side influences. And this is true whether nominal income is rising, staying the same, or declining. A constant nominal income does not ensure constancy of the underlying demands for and supplies of goods and money and thus is no guide to bifurcating goods-side and money-side influences and, by implication, no guide to monetary policy that targets money’s value. Moreover, if nominal income could be kept constant only by a government policy of changing the money stock to offset any changes in money demand (thereby neutralizing any money-side influence) as Mises thought would be necessary to conduct such monetary policy, far from neutralizing the effect of the change in money demand, this would inject a second money-side influence into the economy on top of the (presumed) change in money demand. Even if monetary policy could put the additional money directly and immediately into the hands of those particular people whose money demands had changed and in an amount proportional to the changes in money demand for each person, a change in money supply would still fail to neutralize a change in money demand since the effects on prices of the two changes are determined by subjective valuations, which can be different in different circumstances (Mises 1980, pp. 218–19). What makes the managed monetary system less stable than the gold standard, according to Mises, is that it lacks this policy-induced money-side influence on money’s purchasing power" (pp. 72-73).

The Market Monetarist concludes by saying, "I never understood people who support free markets could also be in favour of fixing the price of the currency – to me that makes absolutely no sense." One reason Mises opposed currency devaluation is that in his context, it does not merely allow for flexibility of prices, but actually redefines the monetary unit. What I have a hard time understanding is why people who support free markets can also be in favor of fixing the supply of money through government intervention.

Salerno on the Benign Effects of Deflation

During his testimony last week before the House Committee on Financial Services, Joseph Salerno noted that a primary reason current Federal Reserve policy is so biased toward inflation is that they are deflation-phobes. I've blogged about this a few times already, but Salerno's brief, but profound explanation why a fear of falling prices has "no rational basis in theory or history" is worth quoting in full:

Let me explain. As technology advances and saving increases in a progressing economy, entrepreneurs and business firms are given the means and the incentive to invest in new methods of production, which in turn enables them to lower their costs and expand their profit margins. In a given market, the natural result is an increase in the supply of the good and more intense competition among its suppliers. Assuming no change in the money supply and continuing technological innovation, this competitive process will drive the production costs and price of the good ever downward. Consumers will benefit from the falling price because their real wages will continually increase as each dollar of income commands an increasing quantity of the good in exchange.

This is not merely abstract theoretical speculation but is precisely the process that occurred in the past four decades with respect to the products of the consumer electronics and high-tech industries, such as hand calculators, video game systems, personal computers, HDTVs, and medical lasers. Thus, for example, a mainframe computer sold for $4.7 million in 1970, while today one can purchase a PC that is 20 times faster for less than $1,000. The first hand calculator was introduced in 1971 and was priced at $240, which is $1,400 in terms of today’s inflated dollar. By 1980, similar hand calculators were selling for $10 despite the fact that the 1970s was the most inflationary decade in U.S. history. The first HDTV was introduced in 1990 and sold for $36,000. When HDTVs began to be sold widely in the United States in 2003 their prices ranged between $3,000 and $5000. Today you can purchase one of much higher quality for as little as $500. In the medical field, the price of Lasik eye surgery dropped from $4000 per eye in 1998, when it was first approved by the FDA, to as little as $300 per eye today.

Now no one, not even a Keynesian economist, would claim that the spectacular price deflation in these industries has been a bad thing for the U.S. economy. Indeed the falling prices reflect a greater abundance of goods which enhances the welfare of American consumers. Nor has price deflation in these or other industries diminished profits, production and employment. In fact, their growth has been just as spectacular as decline in the prices of their products and has been caused by it. But if deflation is a benign development for both consumers and businesses in individual markets and industries than why should we fear a fall in the general price level, which of course is nothing but an average of the prices of individual goods? The answer given by theory and history is that a falling price level is the natural outcome of a dynamic market economy operating with a sound money like gold.

Once you think about it, the idea that lower prices for some goods is good for individual households while lower prices on all goods is a disaster is absurd.

I encourage you to read Salerno's entire written testimony. For a more detailed discussion on the economic consequences of various forms of deflation I recommend his article, "An Austrian Taxonomy of Deflation," published in the Winter 2003, Vol. 6, No. 4, issue of the Quarterly Journal of Austrian Economics.

Hulsmann on the Potential for Hyper-Inflation and More

Guido Hulsmann, Professor of Economics at the University of Angers, France and author of Mises: The Last Knight of Liberalism, was a recent guest on the Lew Rockwell Show. On the show he discussed the Fed's quantitative easing, monetary inflation, the potential for hyper-inflation and the beneficial aspects of deflation.

The interview lasts about 15 minutes and is well worth the time.  You can download it as an mp3 file by clicking here.

Bernanke: Apoplithorismosphobist-in-Chief

Last week the Federal Reserve Bank of Kansas City hosted its annual economic symposium at Jackson Hole, Wyoming. Various economists and central bank governors provided analysis on various topics of monetary policy. As is common the sitting Fed Chairman, presently Ben Bernanke, presented remarks covering "The Economic Outlook and Monetary Policy." While the entirety of his speech provides much grist to the commentary mill, I found the speech revealing in three different ways I'll be discussing for a few days.

In his speech, Bernanke, again affirmed (and I should say unsurprisingly so) that he is the quintessential deflation-phobe. As such, Bernanke is not our economic friend.

I've linked before to Mark Thornton's excellent article diagnosing the fear of deflation consuming so many Keynesian and Monetarist economists. Over the past several years, Ben Bernanke has revealed himself to have particularly acute deflation-phobia. Ben Bernanke is to be credited with convincing Alan Greenspan to step on the monetary gas in 2002-03 because of fears of deflation.  In November of 2002, then Fed Governor Bernanke presented an address with the title reminiscent of a 1950s sci-fi horror film: "Deflation: Making Sure It Doesn't Happen Here." In it Bernanke said we could not rule out the specter of deflation from rearing its hideous head, but never fear for the Fed has many ways of increasing the money supply to ward off falling prices.

Greenspan followed his advice a little too earnestly and oversaw a massive increase in the money supply.

We all know the rest of the story. Interest rates were held down too low for too long, capital malinvestment ensued and what has become the Great Recession began.

How did Ben Bernanke respond to the financial crisis that followed? Give him credit for acting as advertised. He oversaw the largest increase in commercial bank reserves in the history of the planet.

His remarks last week indicate we should expect more of the same. As almost an aside he implies that financial markets--not the market division of labor, savings and investment, or entrepreneurial activity--are the  foundation of the global economy. Given that presupposition, it is easier to understand why Bernanke is so driven to prevent any hint of deflation.

Bernanke essentially reiterated what he said in 2002. Assessing the current situation he says

Maintaining price stability is also a central concern of policy. . .At this juncture, the risk of either an undesirable rise in inflation or of significant further disinflation seems low. Of course, the Federal Reserve will monitor price developments closely.

Bernanke clearly is trying to calm those who also see deflation as the ultimate economic nightmare.

The issue at this stage is not whether we have the tools to help support economic activity and guard against disinflation. We do.

He notes

[T]he FOMC (Federal Open Market Committee) will strongly resist deviations from price stability in the downward direction. Falling into deflation is not a significant risk for the United States at this time, but that is true in part because the public understands that the Federal Reserve will be vigilant and proactive in addressing significant further disinflation.

Notice that Bernanke is not only afraid of absolute deflation, but also a fall in the rate of inflation. He uses the word disinflation five times. It is not enough that we ensure prices do not fall. In Bernanke's mind, price stability demands perpetually rising prices, albeit at a relatively low rate.

The upshot is that Bernanke is committed to inflation. It is almost as if there is no economic crisis more money cannot solve. In discussing Federal Reserve policy he reveals that he cannot even abide market driven "passive tightening" of the money supply that would occur if the Federal Reserve's securities portfolio were allowed to shrink as bonds it is holding came to term. He further affirms

We will continue to monitor economic developments closely and to evaluate whether additional monetary easing would be beneficial. In particular, the Committee is prepared to provide additional monetary accommodation through unconventional measures if  it proves necessary, especially if the outlook were to deteriorate significantly.

Like that of Paul Krugman, the case of Ben Bernanke reveals the true danger of deflation-phobia. It drives those in power toward destructive inflationism, all in the name of price stability. And inflationism is a recipe for a falling purchasing power of money and further capital malinvestment that prolongs the recessionary agony.

Apoplithorismosphobia

A little over a week ago I mentioned some of the reasons we need not fear a deflationary spiral, drawing upon several works in recent popular economic commentary. The pieces I linked to were written to combat an all too popular fear of deflation. This fear is particularly dangerous, because it often feeds the inflation monster.


As Lucy van Pelt says to Charlie Brown in A Charlie Brown Christmas "The mere fact that you realize you need help indicates that you are not too far gone. I think we better pinpoint your fears. If we can find out what you're afraid of, we can label it." A few years ago a former professor of mine, Mark Thornton, did just that. In an article in The Quarterly Journal of Austrian Economics, Thornton appropriately labels the fear of deflation, apoplithorismosphobia, drawing on the Greek word for deflation. provides a scholarly (and humorous) diagnosis of this malady.

Thornton begins by briefly describing a taxonomy of the different types of deflation developed by Joseph T. Salerno. He points out that deflation generally helps the economy adjust following both economic growth and malinvestment.

He separates economists into three groups. He explains that the first two, keynesians and monetarists, both generally suffer from apoplithorismosphobia to some extent. Keynesians do so because they see deflation as contributing to a collapse in aggregate demand which they think causes recession. Monetarists fear deflation, because they think prosperity requires a relatively stable price level.

The third group is made up of causal-realist economists who go back at least until Richard Cantillon. This group does not advocate any particular quantity of money or rate of monetary inflation as optimal.

Thornton then goes on to diagnose a case of acute apoplithorismosphobia, that of economist and New York Times columnist, Paul Krugman. He notes how much monetary policy mileage Krugman gets out of a tongue-in-cheek article on a baby-sitting co-op.

Thornton concludes with a 12-step program to vanquish apoplithorismosphobia. The steps are as follows:

1. Revisit and relearn the basic principles of economic analysis, such as supply and demand.
2. Remember that the cause of misallocations and unemployment is government interventions, such as price controls, inflation, and regulations.
3. Re-examine the effects of monetary policy, other than on the price level.
4. Stop thinking about the price level.
5. Pay less attention to statistics in general.
6. Forget modern macro9 altogether.
7. Note that macroeconomic problems are usually preceeded by large increases of the money supply (i.e., inflation).
8. Remember that the Great Depression occurred after central banks were established, not before.
9. Remember the Fed’s “mistakes” took place well after the Great Depression began.
10. Recall that Herbert Hoover and FDR (and modern Japan) pursued activist policy regimes to keep wages and prices high.
11. Remember that monetary and fiscal policy do not cure recessions or prevent deflation; they only exacerbate the problems and delay recovery.
12. Remember that some of the best periods of economic improvement in human history have occurred during deflations.

The entire piece is worth reading. It is relatively brief, very readable, and quite revealing about the fear of deflation and how to combat it.

Who's Afraid of the Big Bad Deflation?

Not good economists. Deflation is the current fright-word used by economists and politicians alike to justify more inflation in the form of monetary reserve expansion by the Federal Reserve. A good example of this recently came from John H. Makin at the American Enterprise Institute. A less academic manifestation of the phobia-du jour can be found in U.S. News and World Report. In his succinct case for fear of deflation, Paul Krugman claims that inflation is bad because

1. "[W]hen people expect falling prices, they become less willing to spend, and in particular less willing to borrow."
2. "[F]alling prices worsen the position of debtors, by increasing the real burden of their debts."
3. "[W]ages as well as prices often have to fall – and it’s a fact of life that it’s very hard to cut nominal wages — there’s downward nominal wage rigidity. What this means is that in general economies don’t manage to have falling wages unless they also have mass unemployment, so that workers are desperate enough to accept those wage declines."

Is all of this, however, truly reason to be fearful? Sound economic theory tells us the answer is no, not very much. The fear of deflation is primarily the result of trying to do economics from the perspective of the businessman. If the price at which a firm can sell its goods decreases due to decreased demand, this will reduce its revenues and, if it such a drop is unanticipated, the firm will reap losses or at least smaller profits. However, if there is general price deflation, then wages, land rents, and the prices of capital goods will fall along with those of products. Production costs will fall along with revenues, so firms will not necessarily be in long-term financial distress.

These points and others are brought out by the following recommended reading. Financial analyst Frank Shostak answers the question, "Is Deflation Really Bad for the Economy?" concluding that a fall in the money stock following previous artificial money creation actual assists the wealth-creating process by hastening the demise of unproductive malinvestment.

William L. Anderson explains Murray Rothbard's analysis of "the Deflation Bogey,"  pointing out how deflation affects both prices of factors of production as well as prices of final products. He also identifies reasons why deflation is positively beneficial after an inflationary boom.

Douglas French, President of the Ludwig von Mises Institute, presents a defense of deflation, explaining why so many economists get the deflation issue wrong while those following in the Misesian tradition get it write. Quoting economist Guido Hulsmann, French explains

Lower prices increase demand; they do not reduce or delay it. That's why more and more people own flat-screen TVs, cellular telephones, and laptop computers: the prices of these goods have fallen, and people with lower incomes can afford them. And there are more low-income people than high-income people.

Lower prices don't mean lower profits; nor do they mean that employees will be laid off. More demand for a good or service means more employees needed to produce those goods and services. "There is no reason why inflation should ever reduce rather than increase unemployment," Hülsmann writes.

Do not fall into the trap of thinking there is only one opinion on deflation--that it is the unpardonable economic sin. As the literature referenced above reveals, there exists a better framework within which to analyze deflation and that analysis indicates we need not succumb to deflation phobia.