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    Inflation Stories

    Oct 3 • Demand, Supply, and Markets, Economic History, Money and Monetary Policy • 403 Views

    Arrive at a supermarket at the same time everyday? Require cash instead of credit?  Stop making beer? Why?

    The answer to each question is INFLATION.

    We are told that the Fed is always worried about inflation. If you know that you should worry too but were not really sure why, I recommend a recent NPR Planet Money podcast about Brazil. 

    During the 1950s, Brazil printed a lot of money to pay for building Brazilia, their new capital. With more currency circulating, too many Cruzeiros were chasing too few goods and inflation developed. Expecting it to continue, businesses raised prices, workers wanted higher wages, and consumers made purchases sooner. The result? Price and wage hikes accelerated. Finally, by the early 1990s, according to Planet Money, the monthly inflation rate was 80%. That meant that during 1 month, the price of a $1.00 carton of eggs would become $2.00.

    Out of control inflation is like a virus that multiplies. Responding, supermarkets have to reprice items daily. Knowing that food will get new price stickers at 9:00 each day, shoppers arrive at 8:30. You can see why businesses would avoid giving credit. By the time they got paid, the purchase price would have changed substantially. Similarly, one Brazilian beer maker stopped production because the connection between his costs and pricing became impossible to calculate. 

    According to Johns Hopkins economist Steve Hanke, in Zimbabwe, with a daily inflation rate of 98% and a monthly rate of 79,600,000,000%, it took 24.7 hours for prices to double during November, 2008. However, Hungary holds the record with a daily inflation rate of 195% during July, 1946.

    The Economic Lesson

    Textbooks say that inflation has three basic causes. 1) Too many dollars chasing too few goods is called “demand pull” inflation. 2) When the cost of land, labor, and/or capital rises, we have “cost push” inflation. 3) Inflation also can result when one item that is central to an economy, such as oil, becomes more expensive.

    With an inflation rate that is now close to 5%, Brazil has been controlling its causes.

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  • More Deja Vu

    Oct 3 • Economic Debates, Economic History, Government • 265 Views

    With the NY Times saying, “…Britain Keeps Welfare For the Well-Off,” the original Social Security debate comes to mind.

    Appointed by FDR in 1934, the Social Security Task force had an Old Age Security Group. Pushed by 11 states that already had old age insurance, the Roosevelt Administration felt pressure to act. They had to decide who to cover, how to implement the program, and how to pay fo it.

    One debate focused on whether the program should be universal. Predicting that a broader program would generate more current and future support than one that solely targeted the needy, they opted for eventual universal coverage.

    In the U.K. and here we still face the same dilemma. As a society, are we drawn together if we all share the same safety net? Or, have entitements become so expensive that differentiating payers and recipients is more important than unity?

    The Economic Lesson

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    Fiscal Commission Deja Vu

    Oct 2 • Government • 300 Views

    On Amazon (“gift wrap available”), you can purchase the 1995 “Final Report to the President” of the “Bipartisan Commission on Entitlement and Tax Reform”. During February, President Obama announced the creation of the National Commission on Fiscal Responsibility and Reform. The old and new commissions have a lot in common.

    I actually have a copy of the 1995 report on my bookshelf and just read its 269 pages. My conclusion? Nothing has substantially changed. In 1995, they said that Social Security expenditures would exceed Social Security tax revenue in 2013. The current projection is 2014. They said the system would have no trust fund money left in 2029. The current projection is 2037. Even one of the names is the same. Senator Alan Simpson was on the original commission and now is a co-chair of the current one.

    Because many of the facts have not changed, their solutions remain viable. Reflecting timeless political realities, the 32 members of the commission could not agree. Consequently, the report included general conclusions, policy suggestions, and reports from committee members. In addition, the staff presented 3 policy packages ((pp. 169-175). 1) “No Tax Changes”  so benefits would decrease. 2) “Minimize Benefit Reductions” so taxes would rise. 3) A “Blended Approach” which combines benefit cuts and tax increases.

    As was true 15 years ago, because discretionary items like education, space, and justice represent a small proportion of all federal spending, the 2010 commission will have to focus on mandatory spending which takes us to Social Security, Medicare, and Medicaid. Will the Congress and the President respond now as they did 15 years ago?

    The Economic Lesson

    Specifically defined, federal fiscal policy refers to taxing, spending, and borrowing. It involves the federal deficit which is the shortfall between annual spending and revenue. The federal debt is the total amount that the U.S. government owes.

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    The Big Tradeoff

    Oct 1 • Businesses, Government, Households, Macroeconomic Measurement • 1410 Views

    During the 2008 presidential campaign, when asked who is rich, John McCain jokingly said the dividing line was $5 million while Barack Obama said $150,000. Now, referring to proposed tax legislation, President Obama says that a family earning $250,000 is rich and should not get a Bush tax cut extension.

    Some history: The year was 2001 and the nation was in a recession when the Congress passed the largest tax reductions in 20 years. Impacting such areas as income, estate, and capital gains taxes, selected parts of the law were scheduled to expire on December 31, 2010.

    Here we are and what to do? Taxes are all about income redistribution. Economist Arthur Okun has said that we should consider Equality and Efficiency: The Big Tradeoff. If we promote equality, we will have more income redistribution through taxes, more fairness, and a common living standard. However, economic efficiency will suffer and our economic pie will grow more slowly. By contrast, economic competition leads to more efficiency, more entrepreneurial energy, more economic growth and a bigger pie. And, is it fairer to be able to keep more of what you earn?

    Yes, there are countless other issues. They include the deficit, income inequality, innovation, the role of government, defining who is rich, and the unemployment rate. But still, I wonder whether it all comes down to the side you take for “the big tradeoff”.

    The Economic Lesson

    One way to look at U.S. income distribution is a Lorenz Curve. Created by statistician Max Lorenz, the Lorenz Curve divides the total number of U.S. families into 5 equal groups. Then, Lorenz used coordinates to show how much of the total income each fifth of families earns. For example, on a graph a dot at (20,20) would mean that 20% of all families received 20% of the income. Continuing the same idea, we could place a dot at (40,40), (60,60), (80,80) and (100,100). The result would be a straight line reflecting totally equal income throughout that society. Displaying inequality, the actual U.S. curve for 2007 is bowed to the right.

    Arthur Okun said that when we try to affect income inequality by taxing the more affluent, we have a “leaky bucket” problem. Assume, for example, that the “rich” pay a $100 tax. Society will benefit from less than $100 because of administrative distribution costs and skewed spending incentives.

     

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    Incentive Matters

    Sep 30 • Regulation, Thinking Economically • 477 Views

    Economics always seems to relate to incentives. Whether looking at demand and supply, or health care policy, or international trade, always we can return to how incentives shape our behavior. This takes me to several good incentive stories.

    An op-ed in the Boston Globe recently described why used car prices are soaring. As a part of the cash for clunkers program, old gas guzzling, fume emitting vehicles had to be destroyed by car dealers when their owners had the incentive to trade them for newer vehicles. The upward sloping supply curve for used cars responded by shifting leftward. In addition, with joblessness soaring, when more people sought “pre-owned” transportation, the demand curve shifted to the right. The result? Equilibrium price is higher.

    In 1989, Mexico initiated a pollution reduction policy for autos. One day weekly, depending on the last number of your license plate, you could not use your car. Incentive? Acquire a second car. Minimally used, that car could be older and less fuel efficient. The second response? Find a second license plate for your car. Third response? Use a taxi. As you might conclude, overall air quality did not improve.

    Here is an 18th century story from Planet Money where government ultimately figures out the correct incentive. Hearing that close to one third of all felons died when they were shipped by sea to Australia from Great Britain, people were horrified. They demanded more onboard doctors, added lemons to cure scurvy, and  delivered sermons encouraging moral behavior. Nothing worked until the payment system changed. “Instead of paying for each prisoner…on the ship…” the government paid for whoever “…walked off the ship in Australia.” Adopted in 1793, the new incentive solved the problem.  

    The Economic Lesson

    If anyone suggests that economics is primarily about money and math, you could suggest looking further. At the core of economics is scarcity. Because there are limited quantities of all land, labor, and capital, we have to make choices. Incentives shape our choices. 

     

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