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Is Inflation the Only Way Out?



September 22, 2011 – Comments (3)

Board: Macro Economics

Author: OrmontUS

While it is true that I objected to many of the actions taken by the Fed (and their cronies in Treasury) over the past number of years, it is also true that if they had acted otherwise (such as following my wishes), the financial landscape would now appear very different. Whether we would be any happier with those hypothetical conditions is something we'll never know.

Anyhow, you are also right that the US dollar has deteriorated over the past few decades to an extent which few consciously consider. From my own metrics (not peeking at either Shadowstats or the BLS), I generally use a figure of the dollar being worth between 1/10 to 1/12 what it was 40 years ago. Of course that does not include housing which has risen (at least in my neck of the woods) by about 100X (even after the crash). The good news is that my wages increased over that period by more than 12X (in absolute number of dollars) so (ignoring the higher tax bracket that put me during many of those years) I guess I'm still ahead of the game.

It is important to note that what we assume to be the “steady-state” relationship between the sizes and relative finances of the classes is an aberration in history dating back only to the 1960’s. At all times before that, whether we look at the US in the 1920’s, pre-revolutionary European history (yes and post revolutionary as well), Renaissance, Roman times – whatever – there was a very small group of individuals who owned a far larger share of the economy than the rest of the population (and during some periods actually owned a fair share of the population). The US (as well as Europe) have spent the last few decades evening out the finances of the classes. Have the rich given back everything to the working class (now called middle class as the original usage of the term – along with its members – has entered some sore of political/sociological limbo and is now grouped with the wealthy)? This has raised the average standard of living, allowed society to support the poor to an extent that they no longer riot or cause undue social unrest and created the impression that, not only is the American Dream achievable, but one should continually have bigger and better dreams.

Inflation assisted in crafting the scenario outlined above as leverage could be supported as long as debts kept losing value faster than prices wages increased. Then the BIG shift in real estate. Real estate started increasing in price (because of the perception that the leverage was supportable) far faster than the rate of the increase in inflation. In parallel, American Dreams were scaled up, rather than down. Until either home prices reset, debts are forgiven or inflation reduces the real carrying costs, our “middle class” is essentially insolvent.

Fortunately, our government can borrow almost interest free. That’s the good news. The bad news is unless either spending is cut or taxes increased that will not always be the case (though is has been in Japan for the past couple of decades – it only took prolonged deflation to keep the ball rolling).

So we have our current quandary:

If the working class is tapped out financially and the wealthy – while able to support higher taxes – don’t make up a large enough group to be particularly meaningful (other than politically) is solving the overall problem, where is the revenue going to come from? Yes, expenses can be cut, but – even there – there will be a tradeoff of lost jobs and damaged industries.

So I guess the bottom line is that inflation (in the eyes of the Fed) is inevitable as it may make these debts bearable. The question will be at what rate and (more importantly for us) whether there will be anyplace where we can safely get returns to compensate for the loss of value in our nest eggs.


3 Comments – Post Your Own

#1) On September 22, 2011 at 10:57 AM, OneLegged (< 20) wrote:

Nest egg?  That was served as an omlette a few years back, with neither salt nor pepper. 


Great post.

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#2) On September 22, 2011 at 1:22 PM, DH11 (< 20) wrote:

Inflation is a great solution to reduce the deficit but it only makes sense after a plan is in place to balance the budget.

Of course, the official inflation levels reported will always be lower than the real levels. That will help to solve the problem as well. ( From the governement's perspective ) 

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#3) On September 22, 2011 at 1:25 PM, outoffocus (23.87) wrote:

Until either home prices reset, debts are forgiven or inflation reduces the real carrying costs, our “middle class” is essentially insolvent.

Thats probably the best line in the whole post. 

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