01 Dec 2014

“Reason” Symposium on Predictions of Price Inflation

Inflation, Shameless Self-Promotion 33 Comments

I was one of the contributors to this. Whenever you do something like this, by the time the editing process is done, the tone of the finished piece has strayed a little bit from the original draft. So let me reiterate here, I am way more introspective about what happened than Peter Schiff seems to be, though it’s true I am not falling on my knees at Krugman’s feet the way Brad DeLong suggested.

Anyway some excerpts from my piece:

It’s true that consumer prices did not zoom up as I had predicted, but my objection to the Fed’s post-crisis policies was never dependent on that specific forecast. Indeed, the distinctive feature of Austrian business cycle theory is that “easy money” causes the familiar boom-bust cycle by affecting relative prices. Regardless of the purchasing power of the dollar, the Fed’s actions have definitely interfered with interest rates, hindering the communication of information about the condition of the credit markets. By postponing needed readjustments in the structure of production, the Fed’s actions have allowed the problems apparent in the fall of 2008 to fester.

I am still confident that a day of price inflation reckoning looms and that the U.S. dollar’s days as the world’s reserve currency are numbered, though I have no way of gauging the duration of this calm before the storm. Still, my 2009 predictions about consumer price inflation were wrong, and it’s useful to analyze why.

…In 2009 I thought more and more investors would begin to anticipate this process, anticipating that the money supply held by the public eventually would start to soar, so that large-scale price inflation would become a self-fulfilling prophecy.

But the U.S. economy has stayed in this holding pattern, where people expect low consumer price inflation and so commercial banks keep their excess reserves earning 25 basis points parked at the Fed rather than make new loans. Thus the process I described above has been thwarted; the quantity of money held by the public right now is much lower than it would be, if the banks decided they would rather make loans and earn a higher interest rate than the 25 basis points currently paid by the Fed.

In the Austrian view, therefore, consumer prices are not a reliable gauge of the “looseness” or “tightness” of monetary policy. Irving Fisher infamously thought the Fed in the 1920s had done a good job because the CPI had been tame, whereas Mises knew that a crash was brewing by the late 1920s.

Last thing, in the form of a request: Please do not just inform me, “Bob, you should have talked about such-and-such.” There are word limits on these things. If you’re going to tell me I should have talked about such-and-such, then tell me what paragraphs I should have taken out.

33 Responses to ““Reason” Symposium on Predictions of Price Inflation”

  1. Keshav Srinivasan says:

    “But the U.S. economy has stayed in this holding pattern, where people expect low consumer price inflation and so commercial banks keep their excess reserves earning 25 basis points parked at the Fed rather than make new loans.” Bob, are you suggesting that if the Fed was not paying interest on excess reserves, then there would be large price inflation right now? Krugman says that if that were true, then you’d have to reckon with the fact that the Bank of Japan did large quantitative easing in the early 2000’s and it didn’t pay interest on excess reserves, and yet most of the money printing went into reserves.

    • Major.Freedom says:

      Keshav,

      It is important to note that inflation has to be believed by investors as permanent before they’ll be willing to invest larger sums of money that was caused by the “stimulus”.

      If they believe it is temporary, they’ll likely keep more powder dry.

      Imagine you believed you won the lottery, where you are not sure if you’ll get paid $50k a month forever, or if it will end in the next year. If you believed the monthly payments were permanent, you’ll likely spend more correct?

      Another factor is that investors are spending more…on stocks and bonds. Inflation does not necessarily affect consumer prices as much as it does everything else.

      • Keshav Srinivasan says:

        “Another factor is that investors are spending more…on stocks and bonds. Inflation does not necessarily affect consumer prices as much as it does everything else.” I think Noah Smith has responded to this point. His argument is that if you spend money on buying stocks and bonds, that money goes into the hands of the person who sold you the stock or bond. So the question arises, what does the person who sold the stock or bond do with the money? So the argument is that saying “the money went into stocks and bonds” can’t be the ultimate answer to why consumer prices haven’t gone up.

        • Yancey Ward says:

          Well, they bought other bonds and stocks that had lower values. I think, at the end of the day, all one can say is that the final seller of their stocks and bonds bought Fed deposits at 1/4 point/yr.

          My own explanation for the lack of flow through to consumer prices is pure demography- a population as old as that in the developed world isn’t in the upswing of consumption for personal items for the most part, and the things they do spend money on, houses and education for their children and their children’s children have exploded in price over the last two decades. You may not see consumer price inflation until the median age reverses course and starts falling again.

        • Major.Freedom says:

          Keshav,

          Noah Smith is not a credible source. He makes far too many errors.

          To the point you raised. Yes, when a person buys a stock or bond, that money goes to the seller of said stock and bond. But who said that person then can’t turn around and buy a stock or bond themselves?

          I see no reason why newly created money cannot continually “circulate” between stock and bond speculators for long periods of time.

          We don’t have to claim that inflation that goes to stocks and bonds will NEVER eventually go into consumer spending. We just have to claim that inflation will be spent and respent for “a” period of time, and then, at some point, consumer spending will increase enough that prices temporally rise.

          Again, Noah Smith is not an intelligent or clear thinker. He is a leftist pundit.

          • Keshav Srinivasan says:

            “I see no reason why newly created money cannot continually “circulate” between stock and bond speculators for long periods of time.” Is there any empirical work on this?

            • guest says:

              Huh?

              His response amounts to: “Since it’s logically possible for newly created money to be exchanged primarily among individuals with preferences for stocks and bonds for long periods of time, why would a lag between monetary inflation and consumer price inflation necessarily disprove ABCT?”

              It’s a category error to object on the basis of a lack of empirical evidence, when the claim is about logical consistency.

              • Keshav Srinivasan says:

                guest, if we’re just talking about “logical possible” here, then presumably even if money printing just led to people putting more money in the bank idefinitely that wouldn’t disprove Austrian economics.

                But the question I’ve been discussing is not “Is it logically impossible that Austrian economics is correct given that prices didn’t go up that much?” The question I’ve been discussing is “Why did so many Austrian economists make such bad predictions about price inflation?” If the answer is that the money has been circulating between buyers and sellers of stocks and bonds for a long period of time, then that would presumably be empirically testable.

              • guest says:

                To my knowledge, there weren’t many Austrians making bad predictions of the kind Bob made.

                Rather, they seemed mostly to make the argument that more money in the economy will eventually cause consumer prices to rise (all else being equal), which is what Bob’s untimely, yet ultimately correct, prediction traded on.

                As for where the money has been bouncing around for awhile, stocks and bonds was an example, but not the only one.

                There’s also the reinflated housing bubble (search for “The ‘There is No Inflation’ Report” on Robert Wenzel’s site for more information).

                Mark Thornton shares some more sources (at the 05:16 mark) here:

                [Time Stamped]
                So Where’s the Inflation? Tom Woods Talks to Mark Thornton
                [www]https://www.youtube.com/watch?v=n0RusrwYsRE#t=5m16s

                Also, the rigged CPI hides the actually happening rising consumer prices of which we’re speaking:

                There Is No Inflation If You Don’t Eat Dairy, Seafood, Fresh Fruit, Pork, Beef/Veal or Eggs….
                [www]http://www.economicpolicyjournal.com/2014/07/there-is-no-inflation-if-you-dont-eat.html

                Inflation Propaganda Exposed
                [www]https://www.youtube.com/watch?v=pwI3Nya5L9g

              • Keshav Srinivasan says:

                guest, if you were to take a poll of Austrian economists concerning whether they thought Bob would win the bet, what do you the percentage would be that would have thought he’d lose the bet?

              • guest says:

                “… what do you the percentage would be that would have thought he’d lose the bet?”

                Well, you might call BS on me, here; but what I had consistently heard from the Austrians was that, due to the outcome being dependent on subjective preferences, predictions are impossible as far as “when”.

                So, I was under the impression that Austrians knew that Bob was taking a tactically risky move by betting on any kind of time frame.

                I, personally, was not at all affected by Bob’s loss.

                (I also wince when Peter Schiff flirts with such predictions.)

              • Keshav Srinivasan says:

                “Well, you might call BS on me, here; but what I had consistently heard from the Austrians was that, due to the outcome being dependent on subjective preferences, predictions are impossible as far as “when”.” I think what you mean is that it’s impossible to make predictions with 100% certainty. There’s certainly nothing stopping you from making predictions in the sense of having a certain degree of belief that a certain thing will happen by a certain time. The only thing that Austrian economics may say you can’t have is a 100% guarantee that your prediction will be right.

              • LK says:

                “To my knowledge, there weren’t many Austrians making bad predictions of the kind Bob made.”

                Oh, really.

                http://socialdemocracy21stcentury.blogspot.com/2014/03/did-austrians-never-predict.html

              • guest says:

                “There’s certainly nothing stopping you from … having a certain degree of belief that a certain thing will happen by a certain time. The only thing that Austrian economics may say you can’t have is a 100% guarantee that your prediction will be right.”

                It’s the other way around, in fact.

                Once a bubble starts, the crash is inevitable. This is economic law.

                A bubble consists of malinvestments. Malinvestments being contrary to the goals of investors, once they’ve been discovered to be malinvestments the attempt is made to rearrange investments so as to make profit.

                The shift out of wealth-losing investments into profitable ones is when the so-called “supply shock” happens in those industries into which investors were mislead by coerced (artificially low) interest rates into making investments.

                Printing money doesn’t create wealth, so when people try to use it as money (the purpose of which is to guage profits and losses for ones self), the resulting prices are going to be distorted away from what people actually want.

                Artificially more money will result in artificially higher prices, all other things being equal.

                Not a lot of the money that has been printed is being used to buy consumer goods, at the moment.

                When it is, though, prices will rise in terms of the inflated currency(ies).

              • guest says:

                LK,

                “Of course, the argument may hinge on the meaning of “predict.” The ordinary dictionary definition of “predict” is to “announce something as an event that will occur in the future” or “say that something will happen”: this could mean either that
                (1) the person says the event absolutely will happen with a 100% certainty (in a given time frame), or (more probably)

                (2) the prediction that something will happen (in a given time frame) is probable or highly probable and contingent on given conditions (if x and y continue to occur, then z will result).
                These are the meaningful senses of the word “predict,” but, as it happens, we have evidence that Austrians predicted hyperinflation in both senses.”

                Your criticism of Austrian theory only makes sense if most Austrians were making “predictions” in sense #1, since the 2nd sense is of a ceteris paribus nature.

                So, when you say …:

                “And we should note that in the same video, Peter Schiff made a conditional, probabilistic prediction of hyperinflation too. …

                “[Peter Schiff:] … As it stands now, we are headed to a hyperinflationary depression. I hope we will choose a different path before we actually get there.”

                … this isn’t a “gotcha”.

                It logically follows that more money printing, all else being equal, will cause consumer prices to rise at some point.

                If you print it but don’t spend it, nothing will happen. People have to have the artificial purchasing power in their possession in order to use it to compete with others for existing goods.

                And the competition that would result from artificial purchasing power would bid up prices.

              • LK says:

                “It logically follows that more money printing, all else being equal, will cause consumer prices to rise at some point.”

                That is not what Schiff said, and it is laughable the way you just have to ignore all those predictions.

                Not to mention that Faber said hyperinflation was 100% certain.

              • guest says:

                “… is laughable the way you just have to ignore all those predictions.

                “Not to mention that Faber said hyperinflation was 100% certain.”

                First, saying, “if Condition A, then Result X,” is not a prediction. This is the form that most Austrian “predictions” take.

                Second, consistent with the ceteris paribus nature of Austrian analysis, Faber is correct: *all else being equal* hyperinflation is 100% certain.

                If the money were to somehow be destroyed, before it got spent on consumer goods, the printing wouldn’t lead to hyper price inflation of consumer goods.

                For the record, printing a quantity of money-substitutes over the amount of actual money *is* inflation, and Bernanke printing twice the already inflated amount seems pretty hyper to me.

  2. Major.Freedom says:

    Scientistic infiltration of economics has made it very difficult for even Austrian critics who read the theory to avoid falling into the trap of trying to find empirical evidence of ABCT in prices. So we see challenges to ABCT that direct our attention towards the CPI, and the occasional “Checkmate Austrians!”.

    The empirical evidence of Austrian theory is extremely difficult to discern, because the theory is grounded on individual action, on economic calculation, on relative real capital and real labor allocation. How difficult it is to accurately measure how much “longer” or “roundabout” the structure of production has become! When most economists are trying to find the secrets of the economy in prices and other dollar denominated trends, Austrians are thinking about both nominal and real variables, not stripped from each other, but based on the same thing.

    Thus the scientistic bias has arisen in economics: “If we can’t quantifiably measure it easily, then it isn’t what we should be focusing our attention towards. Oh look, some bureau has published a single number representing consumer price level changes. Let us try to incorporate that simple metric instead. And we’ll even use it as a weapon against our intellectual opponents.”

    • Ag Economist says:

      M.F

      There are plenty of attempts by Austrians and the BIS to quantify the ABCT from different perspectives. It seems to have gone very well in most instances.

      • Major.Freedom says:

        Strictly speaking, every observable data is consistent with Austrian theory.

  3. Scott H. says:

    I agree with your analysis on why you were wrong (up until now). I also, agree with your analysis about why you might eventually get the last laugh. However, the FED does have tools available to thwart inflationary bank lending if it gets out of hand.

    • Ag Economist says:

      “However, the FED does have tools available to thwart inflationary bank lending if it gets out of hand.”

      That’s certainly possible. But related questions are “What will happen to growth?” and “Are there other costs?” if (when?) the Fed does begin to unwind it’s balance sheet.

  4. Enopoletus Harding says:

    Thus the process I described above has been thwarted; the quantity of money held by the public right now is much lower than it would be, if the banks decided they would rather make loans and earn a higher interest rate than the 25 basis points currently paid by the Fed.

    -It’s kind of pitiful banks have so little confidence in this economy that they’re afraid of lending to any borrower (even Bernanke himself).
    nytimes.com/2014/10/03/upshot/why-ben-bernanke-cant-refinance-his-mortgage.html?_r=0
    The situation was even tighter before:
    research.stlouisfed.org/fred2/series/LOANS
    Also, I recall this from late ’09:

    After reviewing the evidence and the theories offered by the two camps, I still believe that Bernanke’s unprecedented infusions of new reserves will lead to rapid price increases. These increases may not show up in the price of US financial assets, but they will rear their ugly heads at the gas pump and grocery checkout. Moreover, I think the genie may already be slipping out of the bottle. His escape will only be hastened once the year-over-year CPI figures show moderate inflation.

    -Isn’t this exactly the opposite of what happened?

    • Enopoletus Harding says:

      We would simply replace one bubble with another: in this case, swapping a bubble in U.S. Treasuries (and the U.S. stock market) for the collapsing housing market.

      -Bob, you wrote about a treasury bubble, but you quite clearly were not thinking of another stock bubble.

    • Enopoletus Harding says:

      More specifically, I thought that commercial banks would eventually realize they needed to get their excess reserves in higher-yielding assets.

      -High yield=High risk. Why would a bank seeing dozens of yield-chasers go insolvent try to saddle itself with more risk? Rather, it would wait until its balance sheet was solid, holding ultra-safe, ultra-low-yield treasury bonds in place of risky high-yield ones.

  5. Major.Freedom says:

    A picture is worth a thousand words:

    http://i.imgur.com/qxBrmK2h.jpg

  6. ok says:

    From Jan 1966 to Jan 1980, private payrolls grew 43.4%. The CPI grew 144% during that time.

    From Jan 2000 to Jan 2014, private payrolls grew 4.7%. The CPI grew 38% during that time.

    Schiff is wrong when he claims high levels of unemployment are historically correlated with higher inflation and low levels of unemployment with lower inflation.

    Higher inflation is correlated with stronger rates of job creation in the private sector.

  7. Keshav Srinivasan says:

    Bob, you said “I do not believe the Federal Reserve can gracefully exit from its current position. Fed officials eventually will be in an untenable position in which they must choose to either (a) crash the financial markets by selling off assets and letting interest rates rise sharply or (b) let the dollar fall quickly in value against consumer goods and services.” So you think that when the Fed gets its balance sheet down to ore-crisis levels, then it is certain that either there will be a stock market crash or the annual CPI would go above, say, 10%?

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