On the cause of long-term decline

This item turned up first on my FRED Search results for components of GDP. It looks like long-term decline to me:

Graph #1: Long-term decline of GDP Growth

Long-term decline in the modern economy is the result of cost-push inflation, with the cost pressure provided by the growth of finance.

For the "no-such-thing-as-cost-push-inflation" people:

Yes, inflation of the quantity of money causes inflation of prices. Yes. But there is a causal relationship there: the increase in money causes the increase in prices. Oh, and I wish you would stop using the word "inflation" to mean monetary increase, and use it instead to mean the increase of prices.

We can as a rule say that the increase of prices always has a cause, and that this cause always is increase in the quantity of money. In the case of a war like World War II, a big one, there is a big increase in the quantity of money during the war. The resulting increase in spending causes prices to rise. Prices continue to rise until they absorb all the "excess" money. Then prices can stabilize again.

So now I see a chain of causality: 

• war (for example) leads to printing money
• the increase in money leads to an increase in spending
• the increase in spending leads to an increase in prices.

This chain of causality describes the process that is called "demand-pull" inflation.

With cost-push inflation there is a different chain of causality:

• costs increase
• wages and/or prices rise to cover costs
• prices and/or wages rise to cover those costs...
• the quantity of money is forced to increase, to cover the increased spending.
  

This is just a rough approximation, and the cost pressures may vary. However, with cost-push inflation, the initial problem is rising cost. That is why the inflation is identified as "cost-push" inflation.

People who say "there's no such thing as cost-push inflation" insist that price inflation can only be caused by the increase in money. I have no problem admitting that they are right about that. However, just as I use the word "inflation" to mean "rising prices", I use the term "cost-push inflation" to refer to inflation that is driven by rising cost (as opposed to inflation that is driven by "excess" money). That's just the way it is.

Again: It doesn't mean prices can rise without the increase in the money supply. It is simply a term used to refer to inflation where the initial cause is rising cost and the response creates excess money. Sometimes it does happen that the monetary authority creates money in response to a cost problem. When the prices go up, then, it is cost-push inflation.

The "no such thing" people have to stop interrupting the conversation at the definition-of-terms level or we will never solve the problem of long-term economic decline. From this moment forward, the people who say "there's no such thing" deserve all the blame for allowing economic decline to continue.

Demand-pull inflation is driven by excess money. When people have excess money, times are pretty good: Except for the inflation, times are pretty good.

Cost-push inflation is driven by excess cost. When people have excess cost, times are hard.

Now let me separate "cost-push inflation" into two parts: the cost pressure, and the results. The resulting inflation, again, is due to increase in the quantity of money. I'm not arguing that point. But that's not the problem; it is the response. The increase in the quantity of money is a response to the cost pressure. The cost pressure is the problem. In "Inflation in One Page", Henry Hazlitt explains:

If, without an increase in the stock of money, wages or other costs are forced up, and producers try to pass these costs along by raising their selling prices, most of them will merely sell fewer goods. The result will be reduced output and loss of jobs.

When costs rise, and the quantity of money does not increase enough to meet the rising costs, the result is "reduced output and loss of jobs." And that's according to Henry Hazlitt.

Because the continuing growth of finance creates continuing cost pressure throughout the economy, the "reduced output" noted by Hazlitt has become long-term economic decline. A continuing-cost problem will result in either slowing growth or cost-push inflation, or some combination of the two, depending on the level of "accommodation" provided by economic policy.

Why has there been a long-term decline of economic growth? Because of the cost pressure. Cost pressure leads to reduced output and loss of jobs. And again, in our era the cost pressure is created by finance. 

This is the Arthurian argument.

Long-term Decline

This item turned up first in my FRED Search results for components of GDP:

Graph #1
https://fred.stlouisfed.org/series/BBKMTRD

The surprising words of Henry Hazlitt

 

Henry Hazlitt: "Inflation in One Page". From fee.org

Henry Hazlitt: What you should know about Inflation. GoogleBooks "Read free of charge", 152 pages. Second edition, 1965.

From paragraph 3 of Hazlitt's "one page" paper:

The causes of inflation are not, as so often said, “multiple and complex,” but simply the result of printing too much money. There is no such thing as “cost-push” inflation.

To restate Hazlitt's view: It isn't cost-push or wage-push or any such thing that causes inflation. Only "printing too much money" can cause a general rise in prices. 

No surprise there: Henry Hazlitt, like Milton Friedman, was a monetarist.

Like Friedman, Hazlitt uses the words "always and everywhere" to tie money to inflation. On the first page of What you should know about Inflation, Hazlitt says

"Inflation, always and everywhere, is primarily caused by an increase in the supply of money and credit."

He repeats the words in a later chapter, again to tie inflation to the quantity of money. 

Friedman of course is famous for saying “Inflation is always and everywhere a monetary phenomenon”. They were two of a kind, Hazlitt and Friedman. They were no-such-thing-as-cost-push-inflation people.

Let's get back to paragraph 3 from the one-page paper -- this time, the middle part. This is where Hazlitt considers the consequences of wage and price increases that are not supported by monetary expansion:

If, without an increase in the stock of money, wages or other costs are forced up, and producers try to pass these costs along by raising their selling prices, most of them will merely sell fewer goods. The result will be reduced output and loss of jobs.

Without an increase in the quantity of money, the result according to Hazlitt is not inflation but reduced output and the loss of jobs.

Hey, I get it. It takes money to support economic activity. And it takes more money to support that activity at higher prices. In a monetary economy, transactions require money. I know. But it kills me when people say there's no such thing as cost-push inflation. Because costs go up, and if I don't get a raise I get further behind. But that's just my problem.

It is a severe international problem when people dismiss the possibility of cost push inflation, and along with it dismiss the threat of reduced output and the loss of jobs, the cost-push threat. So it made me sit up and take notice when Hazlitt said wages and other costs may sometimes be "forced" up. He was saying there may be times when cost-push inflation is inevitable. It is an extraordinarily important point -- especially from a monetarist like Hazlitt.

(I see at FEE a 1976 article by Hazlitt titled "Where the Monetarists Go Wrong". So Hazz might not be happy that I call him a monetarist. My mistake. But he was much like a monetarist, in his focus on money.)

And, last, the last part of that third paragraph:

Higher costs can only be passed along in higher selling prices when consumers have more money to pay the higher prices.

See, now it all comes together in a way that makes sense to me: Sometimes our costs go up, and in order to get by we need an increase in the paycheck -- and then the boss needs to raise his prices to pay for it. But as Hazlitt points out, these higher costs can only be passed on if there is an increase in the quantity of money, an increase enough to sustain the existing volume of transactions at the higher level of prices.

 

I am not arguing in favor of inflation here. Don't jump to that conclusion.

One surprising word in Hazlitt's one-page paper -- "force" -- has changed how I interpret what he is telling me: It is not that there is no such thing as cost push inflation, but that ordinarily there is no such thing. This, I can live with.

And then I got wondering if Hazlitt said anything about wages and costs being "forced" up in the 152-page book. The first occurrence of the word "force" that I find occurs on page 9:

Wage and price rises, in brief, are usually a consequence of inflation. They can cause it only to the extent that they force an increase in the money supply.

It's not what I was looking for. Come to think of it, it's better. In the one-page essay we have Hazlitt saying it may sometimes happen that costs are somehow "forced" up. And then on page 9 of the book, we have him saying it doesn't happen often, but it can happen that the rising costs will "force" an increase in the quantity of money.

It's a two-stage process. First, prices are forced up. Second, rising prices force an increase in the quantity of money. Bingo, you've got cost-push inflation. And it's Henry Hazlitt saying this. For me, that was the surprise.

Okay. If you want to say cost-push inflation is rare, that's fine with me. You may be right. I think a lot of people say cost-push inflation is rare, and you're probably all of you right. I'm not prepared to say.

But a "rare" inflation is a lot more common that a "no such thing" inflation. I'll be happy when people stop saying there's no such thing as cost-push inflation, and talk instead about how rare it is. If it is rare in fact, we largely avoid the cost-push threat, but we cannot simply dismiss that threat.

Force or Pressure?

As is often the case, I am thinking again about cost-push inflation. In my preliminary notes I have been describing "cost pressure" as the source of the price increase. But I was always confused about "pressure" and "force" and which is which. So I'm looking for advice.

Seems to me that something causes prices to increase. I think the thing that causes the change in prices is a "force" and the response of prices is a measure of the "pressure" transferred from the force. This is probably all silly except in special cases, but let's pretend I'm dealing with special cases.

Thoughts?

A 2005 warning of the 2008 financial crisis

Among the early warnings I've seen for the 2008 financial crisis, this one is the earliest:

Graph #1: Personal Consumption Expenditures as a Percent of Disposable Personal Income

That 2005 peak in spending is the earliest warning I can remember.

Makes sense, I guess, given that yesterday I discovered our mortgage interest payments don't come out of our disposable personal income (!) if you can believe that.

It was, after all, a "housing" crisis.

I notice also that the general downtrend (to the early 1970s) followed by uptrend does seem to match the path of personal saving (as a % of DPI) if you invert it. It all seems to work together.

Regarding that personal saving graph -- somebody should compare the WWII increase to the covid increase, and estimate the inflation we will have seen by the time prices "stabilize" again. Just to see if MV=PQ has any validity at all...

Who pays the mortgage interest?

Too many lines on this graph. Sorry. It had to be done:

Graph #1: Sorting out household interest cost

The lowest line is jiggy because it shows monthly data. The other lines show annual data and are smooth.

The jiggy line shows "personal interest payments" from Table 2.6. Personal Income and Its Disposition, Monthly. It's the lowest line on the graph. The green line runs close to it. I think these two are the same, except for two things:

1. the different frequencies (annual versus monthly) create some separation; and
2. the lines may be from different sources. Except they are NOT from different sources; both are from BEA.

But I still think these two lines should be the same. If not, then I don't understand what's going on here. As I understand it, then:

The green line shows interest paid by households on debt other than mortgage debt.

The purple line (above the green) shows interest paid by households on mortgage debt.

Green and purple together should add up to the total interest paid by households. They do.

The red line (with black dots) is really two lines. The red one shows total interest paid by households. The black-dot line shows the sum of the green and purple lines. The black-dot line matches the red line, so green and purple together do add up to the total interest paid by households.

So the graph can be simplified. Green and purple do add up to red. I correctly understand the component parts of total household interest cost. So we can forget about the red and black lines, and just consider the lower three lines.

The purple line, household mortgage interest cost, is definitely NOT counted in the jiggy "personal interest payments" line.

Mortgage interest is not counted as part of personal interest. This is probably because they figure the purchase of a home as business activity. This is something I never looked into but it has come up a few times. I remember Oilfield Trash telling me:

CPI views housing units as capital (or investment) goods and not as consumption items. Spending to purchase and improve houses and other housing units is investment and not consumption.

Clip from Table 2.6

So paying the mortgage interest isn't counted as use of personal income. Table 2.6 confirms it: "Personal interest payments" are part of the "Personal outlays" that are subtracted from "Disposable personal income". But "Mortgage interest payments" are not.

According to Table 2.6, subtracting "Personal outlays" from "Disposable personal income" leaves "Personal saving". 

Apparently, Mortgage interest payments are counted as part of Personal saving.

That doesn't sit right with me. Count the repayment of mortgage principal as saving, if you insist. But interest paid on the mortgage is income to somebody else. It is not part of my saving.

I need a cup of coffee.

A theory of the world

Whatever your understanding of the economy, how ever you believe it works, if you rely on your belief when you engage in economic activity, then your theory of the world is true.

What remains, then, is to sort the true world-theories by how commonly-held they are. The most commonly held theories describe the way our economy works most of the time.

Perhaps this sounds crazy, but it is no more than what is commonly called "expectations".

 

No, I don't know if I believe what I just said. But some questions have no better answer.