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The Magistrate

(95,382 posts)
8. He Does Not Even Get The Standard Doctrine Of Inflation Right, Ma'am
Fri Oct 18, 2013, 01:05 PM
Oct 2013

The classic defined cause of inflation is 'too much money chasing too few goods'. In other words, if the amount of money in circulation increases more rapidly than the quantity of goods and services available to purchase, each unit of money must necessarily be able to purchase a lesser amount of goods and services. This can work in reverse, of course: if the supply of money increases more slowly than the quantity of goods and services, each unit of money must necessarily be able to purchase a greater quantity of goods. The former is as destructive as the latter, though in different ways. Inflation harms creditors, since the units of money in which a debt will be repaid will have less purchasing power; creditors protect themselves by lending only at higher rates of interest, which, by making money itself more expensive to acquire, insures that less of it will be used for productive investment, and so reduces the production of goods and availability of services. Deflation harms debtors, since they must repay debts with units of money worth more than those they borrowed, and the very units of money needed to repay are more scarce and hard to come by; debtors frequently cannot manage to repay under these conditions and must forfeit assets to creditors, which when widespread drives down the value of assets generally and places many of them idle, again reducing the production of goods and services.

Government is far from the only agency of increase for the supply of money; private extension of credit has exactly the same effect on the amount of money available as does government creation of debt. Government debt becomes a capital asset for those who hold it, just as does private debt ( in the form of various sorts of commercial paper ); the only difference is that generally private debt is more likely to be wiped out by default and bankruptcy than government debt. Without the capital assets provided by government bonds, and the liquid market for them, a very large proportion of economic activity would seize up; in effect, deflation would be imposed, by a reduction in the supply of money. In our present economy, a similar result would occur if credit cards were removed, and people required to pay cash for all purchases, and allowed to borrow only upon security of real property or specie; in effect, deflation would be imposed, by reduction in the supply of money. Like it or not, our entire economic system depends on lavish extension of credit and creation of money, and whether this is done by private or public agency makes no essential difference, though it remains still the case the government debt is a more secure asset than private debt, as a general case.

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