I was reading something a short while back about our current rate of inflation, 8.6%, and what is causing it. One of the reasons given was MMT, or Modern Monetary Theory. That is accurate, but not true.
The classic definition of inflation is too much money chasing too few goods. Indeed, MMT can be the cause of too much money, and probably is. The government has been throwing money at people for over two years now, subsidizing unemployment, keeping business afloat, and in our case just sending us free money, hoping we would spend it. We did not.
As I understand it, we have been practicing MMT for over fifty years now, since 1971 when Nixon closed the gold window, the “Nixon Shock” as it was called. Prior to that time, based on the Bretton Woods Agreement of 1944, gold was pegged at $35 an ounce, and the US guaranteed that exchange. But even on the gold standard, we have had bouts of inflation.
The source of that “too much money”? The same as always – deficits. Here’s a chart of inflation since World War II. In addition, shocks to the pricing system like the rise of crude oil from $5 to $40 per barrel in response to two (fake) embargoes had a ripple effect through the economy. Poor Jimmy Carter was a deer in the headlights.
As can be seen, prior to the Nixon Shock, there was inflation too be had, the worst right after the war when price controls were removed. The Korean War was said to have caused a bout, and the supposed “oil shocks” of the 1970s sent it to nearly 15%. But since 1981, inflation has been under control. And it is odd, as all during that time our currency has been “fiat”, or not backed by anything but our belief in it. That is MMT at work.
Since 1977 the Federal Reserve has been in charge of controlling inflation and providing full employment. Looking at the graph above, I’d say they’ve been effective. It is understood that some inflation is necessary, as “deflation” is considered dangerous to our nation’s fiscal health. (Imagine making a product but being uncertain that you can sell it at a high enough price to recover your costs and make a profit. In that situation, manufacturing comes to a halt.)
Today the Fed uses interest rates to control inflation. Last month it hiked its Funds rate by .75% in an effort to bring inflation down. But containing inflation takes more than just that move. If there is too much money out there chasing too few goods, then the tax system has to absorb the excess.
We currently have a dual tax system, a regular income tax and a Social Security/Medicare tax (also known as FICA), which is really just another tax on working people. It has been frozen at 14.2 percent for decades now. It is the most effective way to keep workers from overspending on goods and services. The regular income tax has been kept reasonably low due to the hidden nature of the FICA – only half of it is seen by workers, the other half allegedly paid by employers. That is fiction, but I won’t get into it here.
I cannot see interest rates alone working to curb inflation, but here is hoping for the best, as the next best way to get excess money out of the economy is to tax it away.
Arguments about MMT are pointless, like complaining about the weather. The gold standard is gone forever, and the chart above says it did not work that well anyway, at least not as well as MMT has worked since 1981.
I remember back in 2008-9 when the supposed “housing crisis” caused the Fed to dump trillions into bank coffers to rescue them. At that time there was a Missoula, Montana blog run by a few guys who believed in the Austrian School, and they predicted hyperinflation would result. Their entire theory of economics rested on that assumption, and they were proven wrong. The blog went away.
I am no economist, of course. I found it frightfully boring in college, like having nails pounded into my forehead one by one. But I do know that classic Nobel-Prize-winning Milton Friedman economics is dead in the water. If MMT does not work, we cannot go back to another system that is shown not to work. I keep my fingers crossed.
PS: I got an email from WordPress this morning congratulating me for having posted three days in a row. If this post seems labored, it was, but I wanted to wow WordPress with a fourpeat.