“The issue of paper money is the worst kind of compulsory loan… It worsens the conditions principally of the workers, of the poorest section of the population.. It is the chief evil in the financial confusion.” —Vladimir Lenin
No stranger to institutional thievery, Lenin would have no trouble recognizing the graph of the U.S. consumer price index depicted below. It shows the steady erosion in the value of the U.S. dollar over the past 200 years. It shows the ongoing destruction of millions of people’s hard-earned savings. In short, it depicts theft. It’s perhaps the most fundamental and telling image in the political economy.
Think of inflation as a siphon that links economics and politics. It connects the productive with the unproductive. It connects the private to the public and quasi-public. It transfers capital that otherwise could be used to lift mankind out of impoverishment and uses it for current consumption. It does so for very good and noble reasons – bankers, bureaucrats and politicians need to eat after all – and does it ina way that not one in 100 people understands.
Understanding inflation starts with understanding the 2% inflation “floor” currently being administered by the U.S. Federal Reserve and other central banks around the world. At an annual inflation rate of 2%, half the value of your money goes away in 34 years. Yet bankers and governments the world over are committed to keeping inflation above this level. Why is this? Shouldn’t a properly functioning economy produce deflation – a steady reduction in the real cost of goods and services over time – drive by innovation and improving productivity? Deflation is a good thing. It represents progress. It results in higher real wages for workers and a generally improved standard of living for everyone.
Central banks everywhere are determined to thwart deflation. They’ve instituted inflation floors in just about every modern economy. Why would they do this? There are two reasons. First, the levels of debt worldwide have risen beyond the point where broad deflation can even be permitted, due to the destruction it would cause within the financial system. Think of it this way: if the value of houses and other real estate securing trillions of dollars in loans is declining, bankers are in big trouble. This is exactly what happened during the 2008 financial crisis. Lenders (and the financial system at large) needed “protection” from deflation – and the Fed provided it in the form of the inflation floor. Bottom line: over-indebted and over “financialized” economies cannot withstand even garden-variety levels of deflation, such as we experienced in the latter half of the nineteenth century. It’s just too [painful and destructive for the banks.
The second reason the inflation floor exists is because government workers and politicians need protection too. Deflation drives down tax revenues just as readily as it drives down property values. If the value of a house is falling, annual property taxes are also falling. If consumer prices throughout the economy are declining, chances are that nominal incomes are stagnant or falling as well. This means income taxes are also stagnant or falling. Politicians have a tough enough time keeping tax rates where they are, let alone constantly raising them to offset deflation. Bureaucrats need protection too – and they get it from the inflation floor. Again, the purveyors of these protections are central banks, which are run by bankers and bureaucrats at the very top of society.
We’ve framed the inflation problem in terms of protection for financial and government elites. There’s always a cost for protection. In this case, the costs are an overgrown financial system and bloated government at all levels. Insidious inflation siphons economic value that might otherwise go to workers in the form of higher real wages. In the U.S., for example, real wages in the private sector have been stagnant for a generation. This stagnation, along with globalization and outsourcing, is one of the main drivers of the alienation, anger and resentment among the middle and working classes.
The forgotten classes are asking simple questions: Why am I not part of the protected class? Why am I no longer able to earn my way to economic security? Where is the economic value going? Similar to the questions that motivated the Trotskyites before the Russian revolution, these questions animate Donald Trump and economic populists everywhere. Is anyone listening?