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Inflation versus Deflation Argument
Daryl Montgomery
July 9, 2008
Copyright 2008, All Rights Reserved
U.S. Inflation Background
• U.S. government claims inflation is currently
running at a 4.2% annual rate.
• Methodology for calculating inflation was
changed several times in the 1980s and 1990s.
In every case the change resulted in a lower
reported U.S. inflation rate.
• In order to compare inflation numbers must use
the same methodology (choose one).
• If inflation is recalculated using 1970s
methodology, current rate is about 12% (high in
1980 was 14%).
U.S. CPI with 70s Methodology
Our View on Inflation
• Inflation is an increase in consumer prices.
• We are entering a very high inflationary
environment that will be much worse than the
1970s.
• Currency valuations are a key component of
inflation and the U.S dollar is in a long-term
downtrend.
• Prices for food and energy are set globally and
analysis for price increases/decreases must be
made on a global basis.
• Increases in M3, MZM Money supply measures
don’t have maximal inflation impact until at least
3 years after they take place (earliest possible U.S.
inflation peak will be 2011).
U.S. Dollar 7-Year Weekly
International Inflation
M3 Money Supply 1970-2008
Deflationist’s Argument
• Claim we are entering an era of decreasing prices
despite all evidence to the contrary.
• Define Inflation as increase in money supply plus
bank credit (Austrian School), NOT consumer
price increases (but somehow this eventually
affects consumer prices).
• Admit that “printing” too much money causes
inflation (Weimar Germany, Zimbabwe).
• Claim interest rates below inflation rate aren’t
inflationary if bank credit declining enough and
inflation can’t exist without (national) wage
increases.
• Compare current credit crisis to the U.S during
the 1930s and Japan in the 1990s.
Problems with Deflationist View
• Is theory-based instead of reality-based (starts
with theory and if reality doesn’t match, claims
reality is wrong).
• They haven’t shown any relationship between
their inflation measure and consumer price levels.
• Doesn’t consider currency effects (there were
none in the 1930s U.S and the value of the Yen
was relatively flat during Japanese deflation).
• Considers inflation to be local and not global.
• Doesn’t consider inflation possible through
expenditures of assets instead of income.
• Based on mid-stage industrial economy, not a
modern information-based economy.
Is there a Relationship Between Money
Supply + Bank Credit and Consumer Prices?
• Consumer price deflation started in the U.S. by
1926, before the fall in money supply and bank
credit in the 1930s.
• CPI in Japan declined in 1986, just before the
worst stage of their asset bubble.
• Consistent consumer price deflation in Japan
didn’t take hold until 1999, nine years after their
bubble collapsed.
• The inflation rate in the U.S. declined throughout
the 1990s to the early 2000s even though bank
credit was greatly expanded.