I’m trying to understand inflation too.
Derek McDaniel
22

The most notable modern episode of inflation was the stagflation in the 70’s. I haven’t investigated it thoroughly to my satisfaction, but there is a lot to look at.

I hope you won’t mind my interjection of my take on inflation in the ‘70s.

There are several types of inflation that can occur in an economy but most people simply lump them together in a catch-all. This is misleading when one is trying to evaluate and remedy a cause forensically and can lead to bad policy. While the inflation of that period was widely distributed over costs of many goods and services, it had one primary cause, which was the rapid rise in energy cost associated with the oil embargo. Because petroleum was/is so key to the production and distribution of goods it’s cost increases made it appear that everyone was piling on.

The only action that the Fed and congress could take that allowed people to purchase critical products was to increase the currency supply so wages could increase to meet the demand. Failure to do so would have meant rapid deflation and a retraction of the general economy. This is much worse than controlled inflation. The controls available to the government are interest rates and taxes which were utilized after the embargo was lifted to create a soft recession and stop the feedback loop of inflation. Even as much as the inflation appeared to be generalized, it had a cost based source, so it was a “cost/push” event, not monetary inflation caused by the increased supply of currency. The cost increases came first and the currency supply followed.

The inflation in response to the embargo was responsible for the election of RayGun as he fully capitalized on them by vilifying labor unions and taxes. After his election he made some showy policies that weakened labor and dropped the top marginal tax rates. He later had to increase taxes 8 times to avoid a replay of the inflation cycle, but he’s never remembered for those. Even so, his tax policy removed the barrier to financial sector profiteering and the incentive to invest in industry. Investors will generally opt for security over profits and cash over shareholder equity. This has resulted in the income inequality we see today and the growth of the financial sector from 7% of GDP to 23% since ’84.

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