Impressive! That's an annual inflation rate of 2.2 percent despite a tremendous rise in energy prices. On the one hand, I feel that just has to be wrong. But that would explain why $3.00 a gallon didn't causing much of a drop in demand the second time around, because most people can afford the price. Anyway, using the 2.2% rate as the number then by 2009 the minimum wage ought to be $6.70 by then - a rather nice 30 percent gain in purchasing power compared to the last rise in the minimum wage.
Actually, I cannot find a single economist on the internet who does. Hm. Is there a shortage of economist on the internet? Or are my search skills just not very good?
Anyway, my web search did turn up a rather strange quote: "Seeing little chance of caging runaway prices, a growing number of experts have recently been urging that nations find some way to live with them. A band of conservative economists led by the provocative Milton Friedman of the University of Chicago are vigorously touting 'indexing,' a system that in theory preserves the power of money by tying all paper values to a price indicator. For example, if prices rise 7%, so does everything else: wages, prices specified in long-term business contracts, interest rates on bonds, savings, and mortgages. Even taxes are included: a person whose salary rises 7% while prices are also going up 7% incurs no greater tax liability. In theory, nobody looses, and inflationary psychology is broken: there is no reason to rush out and buy now because prices may rise tomorrow by 7%; if they do, so will wages, pensions, welfare payments, and the interest on savings accounts." (Indexing Inflation, Time Magazine)
Here we have the opposite claim being made that indexing reduces inflation. Except, I don't believe that claim either.
I need names of these economists. Or better yet, articles that contain the mechanism where indexing causes inflation without end.
Exactly the logic of a perpetual motion machine! Part A turns Part B, Part B turns Part C, Part C Turns Part D, Part D Turns Part A. And best of all, with each turn it goes a little bit faster. Alas, none of the parts has a power source within it. And if you built one of these damn contraptions you quickly find that it doesn't work. The same is true for indexing and inflation. Let's look at the parts of the economy, business and consumers, separated from one another as best as they can be separated and see which component has the power to generate inflation by indexing.
For the business side, each business pays workers in part from sales made today. But because of indexing they need to pay each worker a little bit more the next day. They get that little bit extra from savings or by borrowing money from a bank with the hope that someday they will earn enough to pay back the borrowings. The process repeats itself the next day, business income rises but the rise doesn't cover the little bit extra they need each day. Eventually the business either runs out of saving or cannot borrow any more money from the bank because every last bit of spare cash has been loaned out. Business then responds by scaling back on the last profitable activities, often firing workers in the process, while paying the remaining workers their indexed wages. The unemployed workers, lacking a source of income, must cut back on purchases good and services from business. The next day after the initial round of firings, businesses winds up with an excess and possibly a few more workers will be out of a job due to the declining sales. In order to attract consumers business must slow the rise in prices and in the process, slow the growth in inflation. With each passing day the slowing inflation causes the indexing for inflation to slow and that results in further reductions in inflationary pressure. Eventually inflation stops.
From the consumer side, every consumer gets wages to spend the next day, but they need to spend a little bit more each day because of inflation. They get that little bit extra from savings or by borrowing money from a bank, with the hope that someday they will earn enough to pay pack the borrowings. The process repeats itself the next day, their wages rise but the rise doesn't cover the little bit extra they need each day. Eventually, consumers run out of savings and cannot borrow any more money from the bank because every last bit of spare cash has been loaned out. Each consumer responds by cutting back on the goods and services they find the least important. As goods and services go unused, businesses either cut back on prices, or in the extreme, go out of business altogether. The remaining more efficient producers raise their prices less and less with each day, but they must pay less and less each day. The decline in inflation causes a decline in the the indexing and the remaining consumers must cut back on their spending even more. With each passing day the slowing inflation causes the indexing for inflation to slow and that results in further reductions in inflationary pressure. Eventually inflation stops.
Neither component, business or consumers, has the ability to power inflation for very long. Indeed both tap into the same resources in order to keep the game going, depleting the resources needed for inflation twice as fast. So how could combining them ever lead to hyper-inflation? It looks impossible.
I find most of its presentation accurate, but it does not include a mechanism for hyper-inflation caused by indexing. So I search the internet for information on Brazil's inflation and found this.
"It was under the cruzeiro that the mechanism was instituted, whereby every month all salaries were automatically adjusted upwards to compensate for inflation. Of course, the official readjustment indexes were almost always less than the real inflation rate, so workers lost earning power. Oh yes, I would like to add that any new drastic fiscal or monetary plan is always called a 'pacote,' which can be translated as a package or even as a present. Believe me, most people would prefer not to find that kind of package from Brasilia under their Christmas tree. The fact is that the only parties that gain from inflation are the financial institutions (banks) and big government. So if things are so bad that a pacote is announced, it is not (usually) because the leaders in Brasilia are worried about the common people (middle class), but because things have become unsustainable for themselves and they have been forced to act in their own interests." (A Dragon Named Inflation, 1994)
Clearly official indexing did not work. They not only had to index but they also had to do pacote pay increases as well. And the workers in Brazil probably had to negotiate time and time again for higher pay despite of indexing. Asking for higher wages does not promote inflation any better than indexing and suffers from the same flaw - when the money runs out it everything stops. Fortunately, I found this article about Gustavo Franco, governor of Brazil's Central Bank, from the period just after the hyper-inflation.
"In the 1970's and even most of the 1980's Brazil was an economic miracle, so no one could explain the onset of drastic price increases in 1987. Further, because the country adapted by indexing prices, wages, and contracts to the price increases to keep a floor under buying power, real comparative costs were soon difficult to sift out of the shifting plethora of figures. In retrospect, Franco said, 'The Brazilian state has begun to spend twice as much as its ability to collect taxes. But it was difficult to see this from the numbers. Hyperinflation then produced many funny theories about its cause. It took 10 years to work through these to an actual solution." (How Brazil Beat Hyper inflation by Leslie Evans)
We have a government spending more money than it collected. From where did it turn for that extra money?
"In addition to the expansion of the central and state government budgets, official government banks began to finance, 'off-budget' expenditures
by buying up central and state bonds."
Oh?
"Banks started to loan money to continue programs that had formerly been funded by the state budget."
So how did they fix this problem?
"Under the Real Plan we enforced the same rules on the state banks and threatened the bank officials with jail if they lent money to to government. We criminalized a major source of the inflation, especially where regional banks frequently bought government bonds. We made that illegal."
Yes. It all makes sense now. Perhaps the government did literally printing up new money igniting the initial burst inflation; but as you say, they stopped. Because of inflation people spent their money as fast as they got it. No saving the money in the bank where it would quickly lose value. Banks learned that people who don't save money don't drop by to withdraw any. Why is that important? It means a bank that never experiences any withdraws, never need worry about keeping any significant reserves. And from the macroeconomics thread we know the modern alchemical process by which banks convert loans into money. The reserves held by the banks must have been very small indeed.
"Brazil once was plagued by chronic inflation which turned into hyperinflation. The source of this inflation was the expansion of the money supply. The government financed its operation and its development projects not out of taxes or borrowing funds but by simply creating money." (The Hyperinflation In Brazil, From 1980 To 1994)
Could there ever be an exception to this process? Hm. Perhaps my idea of trade inflation, government borrowings altering currency flows in international trade, is yet another form of government creating money.
I can imagine in an idealized world in the past where an increase in demand for gold makes it worth more relative to other goods causing deflation. People then switch from other less profitable jobs switch to gold mining thus increasing the supply and restoring the balance. But we no longer live in an idea world. Technology might create a huge demand driving up the price beyond the ability of anyone to supply gold and causing terrible deflation. On the other hand, technology might reduce production costs flooding the market with cheap gold causing horrid inflation. Linking your money supply to a changing commodity does not seem wise.
What does that mean? It sounds like a flat curve with inflation, but from what I know of recent gold prices that have spike recently and in the 1970's, the curve is very dynamic.
"In relation to the Golden Constant, the inflation hedge these is little more than an old wives tale. Unfortunately, that hasn't stopped it sprouting like a weed. Lacking dispassionate empirical support, it rests instead on other theories that at root are political rather than economic." (The Inflation Hedge Thesis Versus The Golden Constant, Roy W.Jastram)
Do you have a chart of gold versus inflation that shows otherwise?
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