Irrational Fear of Deflation? There Is No Correlation between Inflation/Deflation and Growth

Central bankers and the financial press worry about deflation. They aim for a moderate amount of inflation and then worry when their “inflation targets” are not met. Deflationophobes link deflation and recession. They point to stagnant Japan as an example of the ravages of deflation. The modern macroeconomics of rational expectations – for which a number of Nobel prizes have been granted – teaches another story: Only unanticipated inflation/deflation is supposed to affect the real economy.

Few economic writers bother to look at numbers, which are now easy to gather with a substantial number of easily accessible data bases. In the four diagrams below, I plot scatter diagrams of the annual rate of inflation versus the annual real GDP growth rate. Three are for the long run (1909 to present) excluding World War I and II.  One correlates inflation with growth. Another correlates expected inflation (a 3-year moving average) with growth. A third correlates inflation/deflation with growth for the postwar period. A fourth looks at growth and "price surprises." None seems to show a relationship between price changes and economic growth.

Note that these are simple diagrams. There is no econometrics or fancy statistics, but usually simple approaches will pick up strong relationships.

As is evident from the data, it is hard to detect any correlation between inflation and growth.

Perhaps our central bankers and economic pundits should reexamine their views.

1 AM December 16. Russia Became A Banana Republic

Russia’s central bank waited until the early morning hours to raise its interest rate from 10.5 to a whopping 17 percent to encourage citizens to hold rubles and foreigners to buy rubles. Rather than building confidence, markets interpreted the move as panic. By late afternoon, it took an unprecedented 80 rubles to buy one dollar. Despite its vaunted reserves, the mighty Russia gives the appearance of a Latin American banana republic, dependent on one product, with a collapsing economy and declining living standards that can no longer support Vladimir Putin’s expensive foreign adventures or keep alive his social compact with the Russian people.

go to Forbes.com

No One Ever Learns: The Argentine Price Freeze

Argentina has ordered a price freeze on food products to last until April 1. The price freeze applies to the largest food retailers, which account for seventy percent of the market. It follows a day after the IMF censured Argentina for its manipulated statistics, most importantly its gross underreporting of the inflation rate.  Customers have been urged to keep cash register receipts as proof  if the largest retailers violate the freeze order. 

 

The results are predictable. Market demand will spill over to small retailers who cannot satisfy the demand for food products. Their prices will rise, and there will be two quite different prices of the same food products. Customers of large retailers will stand in line hoping to buy at the frozen price. There is no assurance that there will be anything to buy when they get to the front of the line. Outside Wal-Mart, Carrefour, Coto, Jumbo, and Disco stores, black market sellers will offer customers goods at much higher prices.

go to forbes.com