The GDP deflator is the broadest measure of inflation, and with the release today of Q3 GDP statistics, we see that the deflator has been rising at just over a 2% annualized rate for the past two quarters. The deflator dipped into deflationary territory in Q4/08 (-1.2%) and again in Q4/09 (just barely, -0.3%), but it's been positive for the past three quarters. If we take recent Fed pronouncements at face value (i.e., inflation is unacceptable if it's less than 2%), then a 2% pace for the GDP deflator is close enough to perfection for government work. The time for stimulus has come and gone.The deflator is a very sophisticated indication of inflation. Many economists, including Bernanke, watch the number very closely.
So what is going on? Why is Bernanke saying he needs to fight deflation? I think the deflation concern is cover. He is really concerned about the outstanding debt (and more on the way) at federal, state and local governments. His October 4 speech lays it all out:
Today I have highlighted our nation's fiscal challenges. In the past few years, the recession and the financial crisis, along with the policy actions taken to buffer their effects, have eroded our fiscal situation. An improving economy should reduce near-term deficits, but our public finances are nevertheless on an unsustainable path in the longer term, reflecting in large part our aging population and the continual rise in health-care costs. We should not underestimate these fiscal challenges; failing to respond to them would endanger our economic future.By printing money he is decreasing the value of the dollar and making it easier for governments at all levels to pay off their debt in cheap dollars.
Grannis also notes that any honest Keynesian must admit that Keynesianism is once again destroyed because of reality contradicting Keynesian theory:
It's also very important to note that inflation has turned positive despite the fact that the economy remains far below it's "full employment" level, with tons of "idle capacity." According to Phillips Curve dogma, which permeates Fed thinking, this is not supposed to happen. With the economy suffering from so much "slack," inflation pressures should be virtually nonexistent or most likely negative. This is the thinking that has propelled the Fed to the cusp of QE2: they feel they have to pump up demand or face some serious deflation. Well, so far it's not working out that way. That's one more reason why QE2 is unnecessary—the Phillips Curve theory does not adequately explain how inflation works.
(oh good... i love the truth)
ReplyDeleteBy printing money he is decreasing the value of the dollar and making it easier for governments at all levels to pay off their debt in cheap dollars.
True. But government debt is a small fraction of total U.S. debt. And by printing money he is making it easier for all debtors to pay off their debt in cheap dollars. At least, if we get any inflation, he is!
[quoting Grannis:]
It's also very important to note that inflation has turned positive despite the fact that the economy remains far below it's "full employment" level, with tons of "idle capacity."
Inflation averaged, what, 3½% maybe, from the early 1980s until the Crisis? Concern now about 2% inflation seems misplaced.
I agree strongly with the objection to the view that inflation is caused by excess demand. I would point out that Anna Schwartz (among others) still holds that view.