Are we being fooled by theoretical definitions of inflation?

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strabes's picture
strabes
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Are we being fooled by theoretical definitions of inflation?

I've been wondering something for a few days, now that I've spent 10 months pondering how wrong neoclassical economics is, how many of its underlying assumptions and definitions conveniently benefit the banking system, and how fooled I was...

What if the definition of inflation according to economists regardless of what school they come from is wrong?   What if it's not a result of passive pricing forces or the quantity of printed money compared to production, but rather it's simply a result of the banking industry driving up rates?

It seems inflation based on the quantity/velocity of money requires us to believe that the "invisible hand" raises prices and interest rates. Well, quantity and velocity can be based on the behavior of a small group of people--bankers.  It's more plausible in my mind to believe that bankers generate hyperinflation.  If they jack up rates to triple digits, that would require businesses to jack up prices to pay back lines of credit. That would require governments to print money to help citizens avoid complete destitution.  So, it seems those two reactions are then flipped around by economists and blamed as the a priori cause of inflation when in fact it might be the other way around.

I'm just wondering at this point.  I don't really have the time to investigate this, but based on what little detail I know about Weimar, Zimbabwe, Argentina, they were all situations created by the banks, not the governments or impersonal price forces.  It was banking institutions that held the populations, businesses, governments hostage...and theory conveniently blames the hostages or impersonal forces.  If anybody does have the knowledge/interest/time, would love to hear.

The implications are important for what we're going through:  perhaps hyperinflation comes whenever top banking institutions decide to jack up rates rather than other fundamental forces?  I think most ARMs kick in next year...maybe that's an indicator when it would be in their interest to start cranking them up.

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Re: Are we being fooled by theoretical definitions of ...

Strabes,

If the banks raise interest rates substantially, wouldn't that reduce lending, and thus reduce the total amount of money in the system? Isn't this why Bernanke has dropped the Fed Rate, to stimulate credit (money) creation? I agree that the banking system is the source of inflation, and it must have a direct role in hyperinflation, but I can't seem to make the puzzle pieces fit on this one.

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Re: Are we being fooled by theoretical definitions of ...

Yes according to theory, but that's what I'm kinda suggesting...theory might be wrong.  In fact, we know 1) lending has already stopped despite the lowest rates in a long time (so high rates aren't what shuts down lending...Byron Dale suggests that what shuts down lending is simply when banks decide to shut it down), and 2) hyperinflation comes with triple digit rates. So how do we get that if inflation is caused by excessively low rates?  I think this might be a huge setup.  Instead of causing inflation, excessively low rates really just gets everyone leveraged to the gills.  Then once we're all hyperleveraged (private institutions, individuals, government), bankers have some real power (not your average banker...I'm talking about the top financiers) we get all this media claiming "inflation, inflation, inflation" is on the horizon because the Fed has near zero rates, then we're all expecting it from fundamental forces, then the banks jack up the rates now that everyone is in impossible debt which sucks dollars up the chain, puts people with variable debt completely out of their misery, and virtually shuts down commerce unless something real drastic is done (like printing billion $ bills as the triple digit rates drive up prices daily).

Again, I haven't really thought this through.  I'm just extremely suspicious now of every assumption, every definition, every supposed linkage in neoclassical econ.  I'm taking a risk throwing this out there because I could easily be shot down by someone.  But I'm interested in seeing what people think.  

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Re: Are we being fooled by theoretical definitions of ...

I'm just wondering at this point.  I don't really have the time to investigate this, but based on what little detail I know about Weimar, Zimbabwe, Argentina, they were all situations created by the banks, not the governments or impersonal price forces.  It was banking institutions that held the populations, businesses, governments hostage...and theory conveniently blames the hostages or impersonal forces.  If anybody does have the knowledge/interest/time, would love to hear.

At the height of the Weimar republics hyper-inflation the interest rate was 900%.  At the height of the Zimbabwe's hyper-inflation the interest rate was 800%.

Too add to this there is NO LIMIT to the amount of credit that banks can create.  It's just a promise to pay something they don't have, and never have to make good.

Can you imagine if your banker decided to keep extending you credit to keep you in business just how fast you would have to raise your prices in order to stay ahead of a 900% interest rate?  I haven't done the math but I think you would have to triple your prices every month.  How long would it take for a complete loss in the stability and purchasing power of your currency.

Lets pass the Minnesota Transportation Act so this CAN'T be done in America.  Lets take back the control of the money system.

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Re: Are we being fooled by theoretical definitions of ...

Just my 2 cents.  If banks start raising lending rates to "unreasonable" amounts, would this cause one of two things.....

(1)  Either businesses (that borrow to operate) would have to raise their prices to cover their costs, and this would be inflationary to the buyers, and/or (2) Businesses (that borrow to operate) would choose to produce less (because of the higher cost of doing business) and the ensuing shortage in production wouid drive up the prices of what's available.  Either way the end user gets to pay more, which I call inflation.

On the other hand, if all folks (consumers and businesses) are in fear of what might be happening in the economy and just decide to "play it close to the vest" and not expand or spend, does this cause prices to rise because of businesses having to get more for their goods and services in order to sustain profitability?  So, wouldn't that be inflationary too?

Why do the Fed/Gov flood the market with currency in the first place?  Isn't it because the gov spends more than it can possibly pay for, so it just prints more money to cover its behind?  And if a lot more currency shows up in the economy, to pay for the gov's overspending, what effect does that have on the economy?  Does it really create times of great abundance, since everybody seems to have plenty of money to spend on expanding businesses and consumer spending, as some would have us think?  Or, does the economy having plenty of money to spend tend to cause businesses to raise prices, so as to make a bigger profit on what they're selling, and consumers don't care as much because they have plenty to spend anyway?

With outrageous interest rates, I guess I'm wondering at what point businesses would just throw in the towel because their cost of operating gets so huge and their sales drop sufficiently that they figure they cannot afford to keep doing business.....and consumers get so disgusted with prices being so high that they virtually shut down their spending, except for bare necessities - all of which is the result of lenders raising interest rates in the first place?

Is this just empirical thinking, or where am I off base ?

To agree with strabes" original question, why wouldn't banks figure out that they can loan less money, at higher rates, and make just as much as loaning more money, at lower rates.  Which would be easier for them?  So, yes, I think the actions of banks and their lending policies have a lot to do with inflation.  Just one more reason to hate the present banking system!  They really do control our lives under our present system of "borrowing to survive" - whether a business or a family.

 

 

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Web of Debt

In Web of Debt, didn't Ellen Brown point out that in Weimar Gemany, for example, the hyperinflation was actually caused by powerful foreign speculators?  Foreigners saw the weakness of the mark at the end of WWI and decided to exploit it.  By borrowing from the Reichsbank in outrageous quantities, they were essentially naked short selling the mark, because the Reichsbank created it out of thin air.  As they borrowed more and more and the bank created more and more, the money supply exploded, massively devaluing the mark.  And then it was easy for those foreigners to pay off their speculative loans, since you a dollar could buy a billion marks (or whatever).

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Re: Are we being fooled by theoretical definitions of ...

Strabes,

Without going into too much detail, I cannot say I agree with that theory.  Just because banks jack up rates does not mean businesses will raise theirs.  The reason is not every business has debt, so those without any will simply take advantage of the situation and outprice their competitors, taking over the market.  Secondly, raising rates without an increase in the money supply would be deflationary.  It would have the same effect (it is the same effect) as increasing the debt.  More dollars would have to go to service debt rather than chase goods and services.  Businesses in debt would not be able to compete and would close.  Some, or many (depending on the hike) people with credit card or mortgage debt would default.  Remember when Volcker raised rates to 16% (or was it 18%) in the early 1980'S?  We were already in inflation.  By raising rates, he cooled inflation down (caused deflation). 

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Re: Are we being fooled by theoretical definitions of ...

strabes said:

I've been wondering something for a few days, now that I've spent 10 months pondering how wrong neoclassical economics is, how many of its underlying assumptions and definitions conveniently benefit the banking system, and how fooled I was...

What if the definition of inflation according to economists regardless of what school they come from is wrong?   What if it's not a result of passive pricing forces or the quantity of printed money compared to production, but rather it's simply a result of the banking industry driving up rates?

strabes, I agree, inflation is a subjective issue that may not have anything to do with actual money mechanics.  Whichever monetary theory is in vogue at a given time, decides what inflation is and how to prevent it. 

For example, Austrian Economics stalwart Murray Rothbard claimed in his book "What Has Government Done to Our Money? / Case for 100% Gold Dollar" that:

We come to the startling truth that it doesn't matter what the supply of money is.  Any supply will do as well as any other supply.  The free market will simply adjust by changing the purchasing power, or effectiveness, of it's monetary unit.

This theory was proven wrong as the depression taught us that a significant contraction in the money supply leads to a depression or worse.  In fact the theory was proven wrong several times in the last half of the 19th century.  Rothbard's theory was throw out the window and replaced by Keynesians.  BTW, this philosophical flaw in Austrian Economics is the premise that they use to support a gold standard but that's another story.

Keynes changed everything.  Ellen Brown says "Web of Debt" that:

Keynes had turned classical theory on it's head.  The classical assumption was that output ("supply") was fixed and that and that prices were flexible.  Increasing "demand" (money) would therefore increase prices.  When the economy was operating at less than full employment, adding money would not increase prices.  It would increase productivity.  As long as there were idle sources to draw from, watering a liquidity starved economy with new money would not produce inflation; it would produce abundance.

And that is actually how it worked, for awhile; but adding liquidity by borrowing money into existence did not actually create money.  It created debt; and to service the debt, the taxpayers had to pay interest compounded annually.

Our two most popular economic theories; Keynesian and Austrian, are both wrong.  One common mistake they both make is in not recognizing or allowing for the growth of interest debt.

Most of us here agree with Chris Martenson's premise (Crash Course) that interest debt requires that the money supply must continually expand to enable people to pay their debts.  As Chris tells us "debt will always be greater than money."   We are seeing this now as our M3 is almost $15 trillion, but we have over $70 trillion in private and public debt (not including unfunded entitlements).

In continuing with the Crash Course exponential debt premise, I think it's safe to say that as interest debt grows in relation to the money available, we begin to strangle the working economy by starving it of the needed capital.  Neither Austrian nor Keynesian (A & K) economics takes this in account; in fact, they argue that it is not a concern.      

I think this is a critical fundamental - neither A & K economics can be sustained, both theories are mathematically flawed.  In my opinion, this makes both useless or worse, misleading.  I don't think we can use either to define, predict or resolve inflation and deflation.

What do the A and K camps have to say about this?

The Austrians, mostly through Ron Paul, say that our problems are the result of  "easy credit" (interest rates were set too low, they should be set much higher) and he suggests that we allow enough bankruptcies to occur in order to "reset" the system (bankruptcies reduce interest debt).

First, if interest debt is the problem, how will increasing the rate help?  As you said once before strabes "if the interest rate is 3%, the amount will double in 24 years."  I would add that if the interest rate is 7%, the amount will double in just over 10 years.  So how is this expected to solve the problem?

The Austrians would effectively contract the money supply to bring on some bankruptcies - resetting the economy as I mentioned above.  They cannot sustain the system with out periodically "purging" interest debt through bankruptcies.  Great.

To be fair to the Austrians, at least they make more sense than the Keynesians.  The Austrians are against the central bank, our non-Federal Reserve, they would prefer that private banks create and issue our money without the meddling and fraud of central control.  So, the interest problem is not resolved, instead it is mitigated  by requiring bankruptcies.  

One good thing about the Austrians is they are against running big deficits.  They claim the easy money Keynesian principles are inflationary but we really haven't seen that yet.  For the past 18 months we have been hearing them claim that inflation and hyperinflation are just around the corner.  

The Kenysians tell us the banks need liquidity so that may begin to lend again.  The problem is that there don't seem to be near enough willing and worth borrowers.  So, they moved to plan B, find willing borrowers and forget the worthiness.  That didn't work long, so the moved to Plan C, the government must step in as the borrower of last resort.

I've read a number of Keynesian articles that suggest our money supply should expand by around 3% a year in order to keep things stable.  If indeed this is a guiding principle, by your 3%, 24 year doubling projection, we can see how our money has lost over 90% of it's purchasing power.

Sorry if I'm going on too long, my point is inflation and deflation projections requires an allowance for interest debt.  You won't find that in either popular theories. 

One thing that I've observed is that these two philosophies are being integrated with the left-right paradigm.  The left, leans towards Keynesian and the right is moving towards Austrian.  Another false choice for the people.

Larry 

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Re: Are we being fooled by theoretical definitions of ...

i propose that instead of inflation, we use the term dilution.  it's easier for a lay-person to understand, in regards to the actual dollar's value.

 

i am not fully educated yet, but the austrian school feels right to me.  studying human behavior rather than mathematical models and formulae seems like the proper way to approach economics.  it becomes both difficult and illuminating when there is a central bank artificially distorting the market, and obfuscating it's own action.

 

http://www.peakprosperity.com/blog/shell-game-how-federal-reserve-monetizing-debt/25806

 

This is very nearly the same path that Zimbabwe took, resulting in the complete abandonment of the Zimbabwe dollar as a unit of currency.  The difference is in the complexity of the game being played, not the substance of the actions themselves.

When the full scope of this program is more widely recognized, ever more pressure will fall upon the dollar, as more and more private investors shun the dollar and all dollar-denominated instruments as stores of value and wealth. This will further burden the efforts of the various central banks around the world as they endeavor to meet the vast borrowing desires of the US government.

One possible result of the abandonment of these efforts is a wholesale flight out of the dollar and into other assets.  To US residents, this will be experienced as rapidly rising import costs and increasing costs for all internationally-traded basic commodities, especially food items.  For the rest of the world, the results will range from discomforting to disastrous, depending on their degree of dollar linkage. 

Under these circumstances, "inflation vs. deflation" is not the right frame of reference for understanding the potential impacts.  For example, it would be possible for most of the world to experience falling prices, even as the US experiences rapidly rising prices (and hikes in interest rates) as a consequence of a falling dollar.  Is this inflation or deflation?  Both, or neither?  Instead, we might properly view it as a currency crisis, with prices along for the ride.

 

. . . bastards.

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Re: Are we being fooled by theoretical definitions of ...

Good input everybody. My purpose was just to bat this around a bit to stay vigilant and figure out how the human actors in the system will cause hyperinflation rather than looking for impersonal theoretical reasons.   

If Weimar was caused first by a currency crisis, then even though the primary cause wasn't banks jacking up rates, it's still something that was caused by the actions of parasitic financiers--the guys playing the short, and the guys that set up the play by making the short such a good bet (my guess is it wasn't just generic "foreigners" who did it, but representatives of the primary firms around the Bank of England). So the key for us would be to predict when/what financiers will do to kick it off in the US.  How will they benefit?  How will populations lose?  This will allow us to better prepare rather than looking for impersonal theoretical reasons for hyperinflation.  It could answer the question that people are struggling with--why are Asian banks buying our debt?  International financiers are setting up a BIG trade from which they'll benefit greatly.  If we figure this game out, we can know the hand they're going to play rather than looking at it like a cleansed macroeconomist.  I would guess that it won't be done until the central banks do enough shuffling to get the "assets" that will suffer from hyperinflation off their books.  Is this how they will end the Fed and replace it with their next system?  BOJ and BOC will play the shuffle game CM has pointed out--transferring agency debt to the Fed in return for higher quality Treasuries--and the agency debt will suffer most in hyperinflation rendering the Fed impotent and giving BIS/IMF reason to take control?  Or will the Fed be able to shift all its crap to the taxpayers' books before hyperinflation?  Or???

Yes Volcker raised short rates to kill inflation, but that's the rate the Fed charges banks, not the rates banks are charging everyone else. Commercial banks were already charging high rates.  Volcker essentially flattened the yield curve and closed the banking industry's spread.  But even this story of Volcker as a great hero might be a ruse.  Another opinion is that Volcker was simply engaging in the policies desired by the financiers who had big bets in Brazil, Argentina, Mexico...to raise USD rates...created the BAM crisis.  So while we think he saved the US, he was really choking 3 major latin countries.  I don't know.  That's what happened.  Was it planned?  Maybe.  I'm willing to believe anything at this point given what's happening here.  

Larry, your point about how the left/right divide even controls economics is important, but demoralizing.  It makes me wonder, what can we know? What is truth?  What's the sense of learning anything?  Again, Foucault and other postmodern philosophers remind us all "fact" is determined by those with power.  My goal is to identify those with power and figure out what they're going to do.  Everything else could be theoretical fiction.

 

 

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Re: Are we being fooled by theoretical definitions of ...

strabes concludes:  

"What is truth?  What's the sense of learning anything?  Again, Foucault and other postmodern philosophers remind us all "fact" is determined by those with power.  My goal is to identify those with power and figure out what they're going to do.  Everything else could be theoretical fiction."

 

Well, I guess we kinda know who those are that have the power.  Its the same ones who have the money, i.e. control over an estimated half the total wealth of the earth.

So, I guess we could ask the Rothschilds, et. al, but somehow I sense they won't tell us what we want to know. Frown

So, I guess we just keep being their slaves, and wait to see what they do with/to us next, huh?

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