Mish Should Ditch His Deflation Fearsby
Bob Murphy
Mish's Argument for Deflation "Mish" is a very popular blogger on financial and economic affairs. His nickname is a melding of the first two letters of his two real names, Mike Shedlock. (My own friends called me "Romu" for a brief spell, but it didn't catch on.) For some time Mish has been criticizing those warning about impending inflation, and in a recent post he summed up his position quite well. Mish was responding to Gary North, who had written, "The Federal Reserve can re-ignite monetary inflation at any time by charging banks a fee to keep excess reserves with the FED." Mish took issue with North's claim:
I humbly submit that we have no idea what Bernanke is going to do next. Well, okay, we have some idea; Bernanke obviously isn't going to call for the abolition of the Fed. But beyond that, it's anybody's guess. There are many economists who think Bernanke's decision to start paying interest on reserves was a horrible blunder. In any event, Mish is simply assuming that the Fed officials don't want to "cause mass panic," when an open-minded reading of history makes me wonder. Let's not get bogged down on the issue of Fed payment of interest. Here is the crux of Mish's approach to inflation:
Is Credit Part of the Money Supply?
Strictly speaking, that isn't correct. For simplicity, picture an economy that has no credit system, and where physical gold serves as the commodity money. We start out in an initial equilibrium where the public collectively holds, say, 100 million ounces of gold as cash holdings. Prices of goods and services are quoted in weights of gold, and this vector of prices determines the "purchasing power" of an ounce of gold. Because we're in equilibrium, everyone is happy holding his portion of the 100 million ounces. Rothbard Express Now suppose in this scenario, a budding entrepreneur gets the bright idea to form Rothbard Express, the first-ever credit card company. That is, Rothbard hands out plastic cards with his logo on them, and merchants agree to accept payment with use of such a card, rather than with actual gold coins. What will be the effect on prices? At first blush, it seems as if the new business will push up prices. After all, people can now chase goods with not only 100 million ounces of gold, but also with the sum total of their credit lines as extended by Rothbard. In the new equilibrium, wouldn't prices be higher because of the extra spending? July 17, 2009 Bob Murphy [send him mail], adjunct scholar of the Mises Institute, is the author of The Politically Incorrect Guide to Capitalism, The Human Action Study Guide, and The Man, Economy, and State Study Guide. His latest book is The Politically Incorrect Guide to the Great Depression and the New Deal.
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Although
every writer has his or her own nuances, I think it's safe to generalize
and say that the people calling for a "debt deflation"
are assuming that the availability of credit acts as "virtual
money," and causes prices to be higher than they otherwise
would be. Some writers in this camp seem to think that we should
just lump someone's credit line in with his bank balance and currency
on hand, in order to come up with how much "purchasing power"
he has at his command.
