Tuesday, November 23, 2021

Grumpy on inflation at CATO

I had a great time at the CATO monetary policy conference last week. A brief view on why we're having inflation and the chance it will continue:  

Briefly, a helicopter dropped. The Fed fell flat. And here we go. Grumpy got steamed up on this one. 

If the embed doesn't work, try the direct link or the above conference link. Greg Ip moderated well, and stick around for insightful comments from Fernando Martin, Mark Sobel, and David Beckworth.


  1. JC,

    "A brief view on why we're having inflation and the chance it will continue."

    Simple answer - because economists, economic policy makers, and politicians think we "need" inflation. They are all wrong.

    We “need” a war to generate inflation.
    We “need” inflation to avoid deflation.
    We “need” government bonds to be able to pay for a war.

    It’s a circular argument.

    Once you realize that you don’t “need” government bonds (government can sell equity) then the other “needs” (inflation and war) disappear.

  2. Fernando's a beauty! "When the price and the quantity goes up that's demand." No need to overthink this. Bottlenecks, pfft. Fed controls the traffic not the roads. The road's the same, it's the traffic that's increased.

  3. Here's what's different: restricted labor supply. Prices can go up for two reasons: increase in demand or decrease in supply. Changes in employment are only positively correlated with prices when the changes are demand driven. However, when employment goes down as a result of people's motivation or ability to work being reduced, this will *raise* prices.

    In our case, the boost to money supply and coinciding payments to people to not-work and this on a global scale, are increasing prices.

  4. The FOMC is between a rock and a hard place. The real rate of interest is negative across the maturity spectrum. The difference between the unemployment rate and the non-cyclical rate of unemployment is improving, but still negative. When the unemployment rate drops below the non-cyclical rate of unemployment, the FOMC has historically raised the Fed Funds rate until the yield curve inverts and a recession is triggered. Will it do so in this cycle? Seems unlikely, but it is difficult to predict the FOMC's future course of action.

    A chart from FRED -- St. Louis Federal Reserve Bank:
    https://fred.stlouisfed.org/graph/?g=JeGY -- components, %-% change at annual rate, %-%,
    (Non-cyclical unemployment rate) minus (Unemployment rate) vs. time;
    (Effective Fed Funds rate) minus (Median consumer price index) vs. time;
    (Market yield on U.S. treasury securities at 10-year constant maturity) minus (Median consumer price index) vs. time;
    (Market yield on U.S. treasury securities at 30-year constant maturity) minus (Median consumer price index) vs. time.

    Increases in the Fed Funds Rate minus Median consumer price index %-change annual rate (%-%) coincides with the turn from negative to positive of the Non-cyclical unemployment rate minus the unemployment rate (%-%), strongly suggesting that the FOMC targets the unemployment rate when determining the timing of a change in accommodative monetary policy. Note -- all rates of interest are adjusted for the rate of inflation.

    Capacity utilization has been on a declining trend since 1967. The market yield on U.S. treasury securities at 10-year constant maturity adjusted for the median consumer price index has been on a parallel decling trend since 1983. The following chart from FRED illustrates the parallelism of the trends: https://fred.stlouisfed.org/graph/?g=JeMB The components are:
    (Capacity Utilization: Total Index) vs. time; and,
    (Market yield on U.S. treasury securities at 10-year constant maturity) minus (Median consumer price index) vs. time.

    Fiscal policy is unlikely to provide a useful means of escape in the face of the fundamentals illustrated in the charts.

  5. The FTPL method of determining the value of U.S. debt, "B(t)/P(t+1) = E{ PV(Sum( real primary surplus)(n: (t, infinity)); r, I(t)}", breaks down when r < 0 and the real primary surplus is negative for as far as the eye can see. PV(s(n); r, n = t, infinity) diverges to negative infinity under those conditions.

    In other words, if the FTPL holds, then the FOMC has to reverse course and increase the real rate of interest across the maturity spectrum, and Congress has to reduce real government spending or raise real government receipts to bring the real primary surplus to a positive amount, and leave it there for an indefinite period of time in order for the bond value, adjusted for inflation, to avoid violating the limited liability constraint (i.e., avoid B(t)/P(t+1) < 0).

    That transition (FTPL holding), if undertaken, will likely be very painful for the FOMC, Congress and global financial markets. The alternative is to put off the day of reckoning (FTPL rejected), and hope for the best--e.g., a solution to arrive via Aeschylus's apò mēkhanês theós ("deus ex machina") as perfected by Euripides.

  6. Nothing has change > 100 years. The distributed lag effect of money flows, volume times transaction's velocity, are mathematical constants. Inflation peaks in Jan. 2022.

  7. I have seen a lot of commentary arguing that some of the inflation is due to oligopolies raising prices because of the pandemic. They increase their profits; we pay more for their products.

    I was disappointed that this argument was never discussed. Even the Wall Street Journal has been talking about it.

  8. Does anyone know what "paper" David Beckworth keeps referring to? Seemed like a decent guy with reasonably stuff to say, but he kept talking about a paper but his site has no link to academic research by him. I even tried the "contact" button but it goes to general media relations folk so I can't even email the guy. Anyway, if anyone knows a link to a paper he's got on the topic, please share. Thanks, Chris

    1. https://files.stlouisfed.org/files/htdocs/publications/review/2021/05/26/is-it-time-for-some-unpleasant-monetarist-arithmetic.pdf


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