by Don Fredrick, The Complete Obama Timeline, ©2024
(Feb. 9, 2024) — A leftist acquaintance, who seems to have read one or two articles about the Federal Reserve and now considers himself an expert on economic theory, tried to justify the government’s eagerness to print money despite it being backed by nothing of value. He wrote:
“Printing money in and of itself is not enough to cause inflation. Printing money only causes inflation, if economic output does not keep pace with supply. If economic output keeps pace with the money supply (M1 or M2) theoretically, there should be no inflation. (Also after taking into account the money that’s been taken out of circulation.)”
This was my response to his points:
“Printing money in and of itself is not enough to cause inflation.”
First, printing money does not cause inflation. Printing money is inflation. Inflation is, by definition, the artificial expansion of the money supply. The money supply is being inflated. That is why the process is called inflation. Inflation is not rising prices. Inflation causes rising prices. How? More money is placed into circulation, while the printing of that money does not magically make workers or factories more efficient. There is therefore more money “chasing” an unchanged amount of goods and services.
If the federal government decided to print money and give everyone $100,000 to buy a new car, the prices of those cars would immediately go up. Why would they not? Imagine you are a Cadillac dealer and you have 50 Escalades sitting on your lot. Suddenly you have 500 customers arriving to buy Escalades with the $100,000 the government has given them. Of course you would increase your prices! The customers would, in fact, be bidding up the prices. As Escalades are sold, some customers would offer to pay even more than $100,000 because they do not want to be left begging when the inventory has been exhausted.
Yes, General Motors would start making more Escalades to satisfy the demand, but that will not cause the purchase price to fall. Indeed, the price will stay high until the Cadillac dealers run out of customers with the $100,000 given to them by the government. Prices will then fall—because the demand for the vehicles will evaporate. Escalades will be sitting unsold on the lots. General Motors will lay off workers as it slows down its production of vehicles. In other words, printing money can cause a brief demand for products and services, but that will be followed by a recession after the “funny money” runs out.
“Printing money only causes inflation, if economic output does not keep pace with supply.”
Again, printing money does not cause inflation. Printing money is inflation, and that causes prices to go up. Second, the words, “if economic output does not keep pace with supply” make no sense. We can assume what was intended was, “if economic output does not keep pace with demand.” We can translate the full thought into, “Printing money only causes higher prices if economic output does not keep pace with demand.” Of course, as seen with the Escalade example, it would be impossible for the private economy’s output to automatically and immediately respond to the increased supply of money. Obviously, General Motors would increase its output of Escalades if it knew in advance that the government were expanding the money supply by a certain amount and it knew how many consumers would be using that new money to buy Escalades, rather than Lincolns or Toyotas or Kias. But of course General Motors would have no way of anticipating that in advance. All it can do is respond to demand when it appears. Similarly, all the suppliers of parts to General Motors, such as tire manufacturers, would also have to be clairvoyant.
Thus, the argument, “Printing money only causes higher prices if economic output does not keep pace with demand” makes some limited sense, but only in theory, because it is impossible for anyone to calculate in advance how much money will be dumped into the private economy, how it will end up being disbursed, and what consumers will decide to do with it. That is why communism and socialism fail, with their “five-year plans” developed by government bureaucrats who cannot possibly predict consumer demand or future events.
“If economic output keeps pace with the money supply (M1 or M2) theoretically, there should be no inflation.”
In simplest terms, M1 represents the amount of readily accessible cash, such as hard currency, checking account balances, and traveler’s checks. M2 represents the M1 amount plus “less accessible” money, such as savings accounts, certificates of deposit, and money market funds.
Again, the term inflation should be replaced with rising prices. It is obviously nonsensical to argue, “If economic output keeps pace with the printing of more money (M1 or M2) theoretically, there should be no printing of more money.”
But the statement, “If economic output keeps pace with the money supply (M1 or M2) theoretically, there should be no rising prices,” reflects a world of flying unicorns where somehow the supply of money magically always equals the amount of demand for consumer products and services. One might as well state, “If farmers, ranchers, food processors, and food distributors produced and delivered the exact amount of food every day for all of the planet’s eight billion people, there would be no hunger or starvation.” That is la-la land. (It may be worth noting that my acquaintance lives in the Los Angeles area.)
We have nationwide rising prices because the government inflates the money supply. It inflates the money supply to pay bills it cannot cover with tax revenue. It cannot rely on tax revenue to cover all its bills because there would be a revolution and a recession if tax rates were increased enough to cover the government’s absurd spending. Unable to fully finance its spending with direct taxes, the government resorts to financing the shortage with the hidden tax of inflation. It hopes the voters are too stupid to understand how they are being cheated. Sadly, many voters do get fooled. The government (with the help of media members who are either incompetent or equally crooked) does its best to shift the blame of rising prices from federal policies and spending to “greedy businesses” and “evil capitalism,” as if it is the fault of the local supermarket that the money supply has been expanded by trillions of dollars. “Don’t blame us in D.C.! Blame Kroger’s and Walgreen’s!”
In a sane world, there would be no artificial expansion of the money supply. In a sane world, prices would remain stable (as they did for decades, when the nation was on a gold standard and an ounce of gold traded for $20). In fact, with a stable money supply, many prices would even tend to go down—as workers and businesses become more efficient and develop ways to produce better products at lower costs. (In the 1960s, a color television could easily cost $300. Some 60 years later, that same $300 can purchase a television that is bigger, better, and more dependable than an old 1960s model with vacuum tubes. That current television is even cheaper in real terms when one considers that $300 in 1963 is the equivalent of about $2,987 in 2023, after factoring in the degradation of the dollar’s value as a result of inflation.)
Prices often go up without federal involvement, of course, but those are merely rising prices and are not “inflation.” A cold frost in Florida can cause the price of oranges to increase, but that is not nationwide inflation of all consumer prices. The Florida frost does not cause the prices of other products or services to increase. It only impacts oranges and orange products. That is why it is important to understand the terms. Inflation is not rising prices, although the inflation of the money supply causes rising prices. In addition to harsh weather, rising prices can also be caused by labor strikes, material shortages, changing consumer preferences, etc.
The problem with politicians and the fools at the Federal Reserve is that they believe they can somehow come up with perfect formulas and processes that will keep the economy magically humming along, with no booms or busts, and with the ability to somehow enable the government to spend far more than it collects in taxes with no ill effects. That is impossible. In fact, the booms and busts they wish to avoid are typically caused by their absurd policies. Those policies include the Federal Reserve’s ridiculous desire to maintain inflation at a steady two percent rate. Who chose two percent? Why should the target not be zero? Why should the government engage in policies that seek to ensure that the value of the money you have saved is worth two percent less every year? Are you content knowing that if you deposit $100 in a savings account the Federal Reserve wants it to be worth only $98 one year from now?
It is time to abandon the nonsense, fire the eggheads, slash federal spending, balance the budget, and get the government out of the private economy.