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.

Keynes on Austerity

From the Halley Stewart Lecture, 1931: "The World's Economic Crisis and the Way of Escape". From the essay by J. M. Keynes. I found the quote in an old post at haroldchorneyeconomist.

For clarity I have used the word "austerity" in the first sentence, in place of Keynes's word "economy" in the quote below:

"An austerity campaign, in my opinion, is a beggar-my-neighbour enterprise, just as much as competitive tariffs or competitive wage-reductions, which are perhaps more obviously of this description. For one man’s expenditure is another man’s income."

The quote from Keynes reminds me: Back in 2010 I read an interview with Dr. Kurt Richebacher. Here is the part that struck me:

Q: Give us the cause of the profits problem.

A: Corporate cost cutting, for one. The widespread measures that individual firms take to improve their own profits have, in the aggregate, the opposite effect on the profits of other firms. Business spending is the key source of business revenues, not consumer spending. A retrenchment in business spending cuts business revenues. Higher profits and higher prosperity cannot possibly come out of general cost cutting.

It is the same story Keynes told: the Austerity Cannot Work story.

For the record, Richebacher was identified as Austrian. Keynes, of course, was the Keynesian, until later Keynesians redefined the meaning of the term.

Seeing growth slowing

At FRED, the annual version of Real GDP -- the one with inflation stripped out of the numbers so we can see a real (honest) measure of economic growth -- looks like this:

Graph #1: GDP with price changes removed, to show real growth

The blue line begins in 1929 and ends in 2022. It curves gradually upward over time, and growth appears to be good. But I think we know that growth is not good.

Graph #1 doesn't show the growth rate of GDP. It shows amounts of GDP. Bigger amounts are higher on the graph. But increasing amounts don't always mean better growth. It's like getting a 10-cent raise in your paycheck: It is an increase, yes, but you're not even keeping up with the cost of living.

There are two things: There's the data that you put on the graph, and there's the way the graph shows the data.

The GDP data we're using has inflation stripped away so that the numbers don't increase from prices going up. The numbers only increase from producing more stuff. You have to do that to see GDP growth. But to see or compare changes in growth, you have to do something else. This second thing is to tweak the graph to make the vertical scale a log scale.

Graph #1 shows GDP gradually curving up. The graph shows that we we are producing more and more. But we need to know more than that. We need to know if we're growing as much, now, as we did 10 years ago. Or 30 years ago, or 50. 

Are we growing faster than we did years ago, or slower, or about the same? You cannot tell by looking at the first graph. But you can tell by looking at this one:

Graph #2: GDP with price changes removed and the Vertical Axis showing a Log Scale

The second graph shows the same data as the first. I only checked a box to make the vertical axis show a Log Scale. Just the vertical axis is different. But the line now shows a downward curve rather than an upward curve. The downward curve on a log scale graph means growth is slowing.

On a graph with a log scale, a straight line indicates a roughly constant rate of growth. And the steeper the line, the faster the growth is.

To my eye, the blue line from 1950 to 1970 is pretty straight, and more steep than from 1966 to 2007. And then from 2010 to 2022 the line is even more straight, and even less steep. I added three trend lines by eye, based on these straights and dates:

Graph #3: Same as #2, with three trendlines added by eye

The early period (1950-1970) goes uphill faster than the midsection, and the midsection goes uphill faster than the period since 2010. Economic growth has been slowing. You can't see it on graph #1, but growth has been slowing. The log scale graph makes it easy to see.

You may notice that the middle period starts before the early period ends. Yeah. I look for straight-line trends from left to right, and I look again from right to left. Sometimes the right-to-left view suggests an earlier date, like the 1966 of the middle period. Also I think that when a trend changes, it often takes a few years for the change to be completed -- and 1966-1970 is one of those times.

I jotted down my dates for the three "straight" sections where the growth rate doesn't change much. Then I went back to the FRED data and figured the average growth rate for each of those three sections. There is more difference than I expected:

Graph #4: Average rates of Growth, where the plotted line is relatively straight

Just over 4% in the early period. Just over 3% in the middle years. And just over 2% in the most recent period. Growth slowed by about one percentage point after 1970 and again after 2007.

I know, one percent doesn't sound like much. But one percent every year from 1970 to 2007, compounded, does add up. In his 1995 book To Renew America, Newt Gingrich said that if we can get "a 1 percent increase in our economic growth rate" then "the Social Security Trust Fund never runs out of money". One percentage point more growth means a lot more GDP.

And yes, Gingrich was yearning for the good growth of the 1950-1970 period. As am I.

Trend lines by eye are nice, but trend lines by Excel are better. The next graph shows Real GDP (the same data as before) and a trend line based on the 1950-1970 data, using a log scale:

Graph #5: Real GDP and the 1950-1970 trend line

The trend line (red) is an exponential curve, the curve that curves uphill like crazy, like a covid graph. But an exponential curve shows a constant rate of growth, so on a Log Scale graph the exponential curve is a straight line. Yeah, I am still amazed by this -- and sometimes fooled by it.

Now, think of the red trendline as showing where Real GDP would be if growth kept to the 1950-1970 trend rate. And the Real GDP line, well, it's just sad and droopy. Real GDP is growing a lot slower now than it did 50 to 70 years ago: