James Pethokoukis

Politics and policy from inside Washington

Arguing for deflation

Oct 20, 2010 13:41 UTC

Ed Yardeni gives it a try:

Why is  [Bill Dudley of the Federal Reserve]  so sure that the Fed is so powerful when the CPI inflation rate is so close to zero despite the Fed’s extraordinary efforts to reflate the economy over the past few years? Could it be that while the Fed may be able to control inflation, it can’t do much to stop deflation? Macroeconomists like Mr. Dudley are convinced that inflation is always a monetary phenomenon. I agree that rapidly rising inflation is always a consequence of excessively easy monetary policy. Tight monetary policy, if tough enough, can always lower the inflation rate. However, the deflationary pressures of recent years can be attributed to lots of non-monetary developments including the IT revolution, the rebound in productivity growth, the proliferation of free trade following the end of the Cold War, and the emergence of low-wage emerging countries like China. There’s not much that the Fed can do to stop deflation caused by these forces. Indeed, the Fed shouldn’t even try, since such deflation tends to boost the purchasing power of consumers, which is a much better stimulus program than any reflationary policy promoted by the Fed.

The Fed’s ‘crystal meth’ monetary policy

Nov 20, 2009 18:50 UTC

A classic from David Goldman:

The crystal-meth monetary policy at the Fed makes everyone feel better, until they don’t. The nonstop rise in the price of dollar hedges tells us that it can’t last forever. Large balance sheets attached to the Fed’s money pump can show profits, and the price of spread assets (as PIMCO’s Bill Gross keeps emphasizing) is stupid rich. But at the capillary level, through, the economy is dying and gangrene is setting in. … It isn’t just the 17.5% broad-measure unemployment number that we should worry about, but the massacre of smaller businesses, who are concentrated in the most vulnerable sectors: real estate, construction, and retail. Retail sales may get a temporary shot in the arm from cash for clunkers, and a combination of tax credits and (de facto) subsidized mortgage rates may hold up the bottom of the housing market for a short time. But today’s data show how fragile these matters are.


Monetary policy is one of the tools that a national Government uses to influence its economy. It is mainly used to low unemployment, low inflation, economic growth, and a balance of external payments.

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Deflation nation

Jul 4, 2009 12:43 UTC

From David Goldman at Inner Workings:

An aging population increases its purchases of securities and decreases its purchases of goods as it saves for retirement. Americans have saved nothing for the past ten years, and the capital gains that they considered savings-substitutes have vanished. That means that an enormous savings deficit accumulated over more than a decade has been exposed, and that Americans must attempt to correct it quickly and under the worst of circumstances. That creates a deflationary shock that a few trillion dollars’ worth of stimulus cannot begin to mitigate. America may have the worst of both worlds: currency devaluation AND price deflation, as in the 1930s.

The Fed’s next move …

Jun 22, 2009 18:29 UTC

I think Mike Darda of MKM Partners nicely encapsualtes the Fed’s thinking:

With the unemployment rate 3-4 percentage points above what is widely deemed to be neutral, the Fed probably believes the economy is running more than $1 trillionbelow potential. In other words, don’t expect the Fed to start laying the groundwork for tighter monetary policy until a sustained turn in both output and employment is underway. Of course, this will risk an eventual inflation problem, but as long as inflation doesn’t escape the mid-single-digit range, it’s a risk the Fed is probably willing to take (as opposed to a relapse in the credit markets, and a third leg down in the economy, if they tighten too soon).

Inflation vs. Deflation

Jun 18, 2009 13:51 UTC

The always great Ed Yardeni has a smart take on the inflation-deflation debate, comparing US quantitative easing efforts to those of Japan in the 1990s:

During that time, the Bank of Japan (BoJ) adopted Quantitative Easing (QE) in a desperate effort to stop deflation and revive bank lending. Nevertheless, bank loans plunged during this entire period, and have been rising anemically since 2005. Japan’s CPI inflation rate, ex food and energy, on a y/y basis has been below zero this decade, with a brief peek just above zero late last year.

Japan was in a liquidity trap. All the reserves pumped into the commercial banking system by the BoJ had absolutely no stimulative impact on bank lending and the economy, and no inflationary consequences. The BoJ abandoned QE in early 2006. Reserve balances plunged 76.2% from January 2005 to November 2006. In other words, the BoJ executed its exit strategy from QE and once again there was no obvious impact on the economy or inflation. …

In any event, Japan’s experience confirms that inflation isn’t always and everywhere a monetary phenomenon. It is more complicated than that. Market structure plays an important role. Competitive markets tend to be less prone to inflation than highly regulated and monopolized ones. Labor costs are the key drivers of inflation. Unions don’t have the power they once had, and productivity has been growing even during this recession. By definition, stimulative monetary policy isn’t inflationary in a liquidity trap, when the banks aren’t lending and the borrowers aren’t borrowing.