What about the essay Common Sense…doesn’t that have any applicability to what is going on today?

If all of the systems were about to fail when the fed and treasury got together to ask for TARP 1, they could have used their effort to ask for money to protect the money in the banks like the FDIC insurance does, instead of dropping it into the black hole for the fed banks to skim their benefit from and for the people on the other side of the black hole to catch ( i won’t name names)

I, however, do no subscribe to blind faith in a central planner. Given the FEDs past record I highly doubt they’ll be able to control inflation/deflation or the economy.

You state:”For this to happen requires a strong central bank whose sole purpose for existing is to maintain a stable value for the currency. If you have this, then you can maintain a stable currency in a way that you could *never* accomplish with the gold or silver standard, which are subject only to the whims of bank boom / collapse cycles with no possibility of printing or unprinting money to maintain stable valuation of money.”

Has the FED really maintained a stable value for the currency? Has the FED really been able to prevent bank boom / collapse cycles? These are important questions, and questioning the necessity of the FED is totally legitimate.

For example, one link in the chain is long-term interest rates, and they can respond differently to a policy action, depending on the market’s expectations about future Fed policy. If markets expect a change in the funds rate to be the beginning of a series of moves in the same direction, they’ll factor in those future changes right away, and long-term rates will react by more than if markets had expected the Fed to take no further action. In contrast, if markets had anticipated the policy action, long-term rates may not move much at all because they would have factored it into the rates already. As a result, the same policy move can appear to have different effects on financial markets and, through them, on output and inflation.

Similarly, the effect of a policy action on the economy also depends on what people and firms outside the financial sector think the Fed action means for inflation in the future. If people believe that a tightening of policy means the Fed is determined to keep inflation under control, they’ll immediately expect low inflation in the future, so they’re likely to ask for smaller wage and price increases, and this will help achieve low inflation. But if people aren’t convinced that the Fed is going to contain inflation, they’re likely to ask for bigger wage and price increases, and that means that inflation is likely to rise. In this case, the only way to bring inflation down is to tighten so much and for so long that there are significant losses in employment and output

i disagree with the above. workers aren’t thinking about future inflation when negotiating contracts. but i do agree that it is a confidence issue that the fed is doing its job. it’s a delicate dance with interest rate manipulation. right now, we have a lot of room with future interest rate hikes. i really don’t want to hear that we have been keeping the middle class wages below normal to curb inflation. any takers?

Bertrand Russell said, “The problem is, the stupid are cocksure and the intelligent full of doubt…”

Why don’t you add a little doubt to your rhetorical style…you would gain some insight.

res ipsa loquitor

This is not the whole story. Back in the high inflation 70s, many union contracts simply asked for a COLA indexed to the CPI. If wages merely keep up with the CPI, this should not generate a wage/price spiral under current theory.

However, automatic COLA provisions did trigger a wage/price spiral. What current theory does not take into account is that workers cannot consume the same goods that recipients of newly created money have already consumed. For recipients of newly created money to be able to buy goods with the newly created money, workers must consume less.

That is what has been happening for the last few decades. Workers get fewer goods per hour worked, and recients of newly created money consume the difference. Retirees were pushed to the edge of subsistence.

Actually I did point that out in my own comment above…

“The value of a TIP should depend upon one thing: the expected real growth in the economy over the life of the bond.”

Could you elaborate on this point? TIPS are priced in nominal dollars but they offer a real return, so shouldn’t their price fluctuate with the real value of the dollar?

I was thinking that the Fed might be interested in keeping long term interest rates low as ONE of their goals to maybe help the housing market stabilize. Seems plausible to me. Let’s see if they ramp up their purchases if yields start to rise.
I am not suggesting that the Fed will actually become the buyer of last resort, just that they may be motivated to be not completely forthright in their efforts to “manage” inflation expectations so they can continue to buy treasuries.
I haven’t heard the lizard man from Mars theory before. I mean, doesn’t EVERYBODY know that scientists are still trying to determine if even unicellular organisms exist on MARS? That’s almost as funny as the image of Bernanke flying around in a helicopter dropping bales of $100 bills for people to use as mattress stuffing.
Didn’t Bernanke make the claim in 2007 that the subprime mortgage problem was contained? I bet he wishes he had not said that now that he has to manage all these inflation expectations.

Let me give you a personal example from my time spent here in Ecuador. Ecuador is interesting becuase it has been dollarized for about 9 years. That was preceded by a local currency collapse in the late 90′s. The local currency (the Sucre) had a built in inflation bias that got out of control towards the end. People would not save their money in local currency, rather they would immediately switch to dollars. People equated inflation with monetary mismanagement. Now that it is dollarized, there is still inflation but local people here do not connect it with what the fed is doing.

Once the inflation cat is out of the bag, it’s really hard to put back in check. Once the general public realizes that the Fed doesn’t know what they’re doing, its going to be a tremendous shock to the system. Inflation is no longer about permanent energy price increases or other external factors. It’s about the system itself. I’m not saying its going to look like Zimbawe, but we may be looking at something a whole lot more serious than the late 70′s and it could unfold at a frightening pace.

Another thing to consider is the extreme volatility of TIPS. How can the long-term TIPS go up and down by as much as 4% in a day? The value of a TIP should depend upon one thing: the expected real growth in the economy over the life of the bond. (They should depend upon inflation only to the extent that inflation could affect real growth) What are the growth prospects in the economy over the next 10 years? In October, TIPs predicted a real growth around 3.2%. Several weeks ago they were predicting growth of around 1.80. Currently, they are predicting growth of around 2.2%. Is the expected growth in the economy really one percent less today than it was in October? Should growth expectations, as predicted by TIPs, fluctuate so much?

The problem with the Austrian school is not gold vs. fiat systems, it’s essentially a problem with govenment of any kind. I appreciate that government, that fallable people, should stay out of the money system – but that’s absolutely never going to happen. Going back to the gold standard would simply mean the Fed desingates the ratio of dollars to gold rather than the interest rates, same problem. The fiat money system works because it takes into account the reality of human systems and tries to make the best of them by having a combination of government officials and independent bankers. Much like our governmental system is not perfect, but tries to make the best of human nature by having co-equal branches of government, bi-cameral legislatures etc. It’s not the best system of government, but it’s the best we can come up with.

This is a slightly complicated issue, and there are many who argue that the govt. intentionally understates inflation for political/economic reasons. However, there’s a strong case for lack of significant inflation in the cost of _basic_ food supplies and gasoline until about 4-5 years ago.

http://indexmundi.com/commodities/?commodity=food-and-beverage-price-index&months=300

So, through about 2004, the cost of _staples_ like bread, pasta, paper, etc. remained steadily low. Many consumer package goods companies saw their margins deteriorate as their products were increasingly commoditized, and they shifted toward value-added products to compensate (innovative packaging, new benefits, added ingredients). These new products are not necessarily comparable to old products in terms of ‘quality’ and so the impact of this trend of “upgrading” on the CPI is not immediate.

Yet starting in 2003-2004, even the trend of decreasing prices in consumer _staples_ reversed. Commodity price increases drove price pressure, and gave consumer goods companies their first chance in several years to take substantial price increases across the board. Furthermore, improvements in consumer tracking technology have allowed retailers to become much more savvy about extracting money from consumers. (read about companies like Dunnhumby… http://www.dunnhumby.com/)

On the other hand, companies like Walmart have streamlined supply chains of imported goods, allowing consumers to benefit more directly from the strong dollar (when it was strong). This helped keep the household average expenditure down – but with the deterioration of the dollar, we’ve hit the end of that road.

In the case of fuel (oil), persistent low prices were largely driven by an extremely strong dollar that persisted through the 1990s, and then still remained somewhat strong through 2004. After 2004, however, it looks a little ugly.

http://indexmundi.com/commodities/?commodity=energy-price-index&months=300

Meanwhile, nominal wages have remained relatively stagnant, leading to a real decline…

http://pewsocialtrends.org/charts/?chartid=533&topicid=5

Also:

http://mwhodges.home.att.net/male_female_income.gif

And finally, CPI does not fully and immediately account for health insurance, college education, daycare, housing, or the requirement to have certain new technologies (cell phone, internet connectivity) to participate in today’s economy.

So, CPI isn’t “lying” per se, but there are serious questions as to whether it has reflected the real increases in the cost of remaining a part of the “middle class”. And note that core CPI removes “highly volatile” items, like fuel.

CPI is, perhaps, a better measure of the minimum cost of _surviving_ than the actual level of prices in a country.

What if you kept your money in the bank, while everyone else rushed to spend there’s? Interest rates skyrocket, so your CDs get paid 15% per annum.

The high interest rates slam the housing market, as an example, and housing prices plummet as a result (as taxes rise, housing prices decline as a result).

In a high inflation environment, the conventional wisdom is to buy hard assets because they will increase in value. Or take out loans because you will be able to pay off the loans with debased dollars.

But as a contrarian, you play the “other side” of this coin–the cash side. A period of high inflation results in increased cash flow needs because of high interest rates, which in a relatively short time results in a corresponding decrease in the value of assets.

As an example. If Bernanke today pushed interest rates to 15%, what would happen to asset prices, including home prices? They would plummet. He won’t do that, of course. But he will eventually.

It’s the conventional wisdom paradox. If everyone’s doing it, it will be wrong.