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Embracing inflation cont'd

Ken Rogoff is right to suggest that a couple years of higher inflation would help the economy, writes Paul Krugman, but how exactly are we going to get that inflation? The Fed's got a few tricks left in its toolbelt, but it's not clear how well they'll work. And while Rogoff is dismissing the role of further fiscal stimulus in helping the economy, the only time we've gotten inflation going during a slump like this one was after the Great Depression -- and we did it, yep, with fiscal policy. Quoth Krugman:

Here’s the GDP deflator (a measure of the overall price of things America produces) from 1929 to 1948:

ww2_inflate.PNG

Prices rose about 70 percent during the buildup to war, the war itself, and the immediate aftermath. This greatly reduced the real value of outstanding debt– the reverse of the debt deflation that took place in the early stages of the depression.

What this example suggests is that yes, inflation can be helpful in getting out of a prolonged slump — but that getting that inflation probably requires a combination of loose monetary policy with strong fiscal stimulus.

By Ezra Klein  |  September 2, 2010; 9:51 AM ET
Categories:  Economic Policy  
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Comments

I think the last time we tried to use inflation to solve our unemployment problems we ended up with stagflation. I'd just as soon not go down that road again.

http://en.wikipedia.org/wiki/Stagflation

Posted by: jnc4p | September 2, 2010 10:43 AM | Report abuse

Klein, you and your other profligate spender friends (Krugman) are missing the point- we need inflation to get out from under the debt. Creating more debt to cause inflation doesn't exactly work in reducing the real value of the debt total.

Posted by: staticvars | September 2, 2010 11:58 AM | Report abuse

"The Fed's got a few tricks left in its toolbelt, but it's not clear how well they'll work"

A central bank which can't create inflation would be like aquaman drowning in the tub.

"and we did it, yep, with fiscal policy"

Umm... I believe it was the combination of revaluing gold at $35/oz and stopping the repeated waves of bank failures which launched the reflation process.

Posted by: justin84 | September 2, 2010 11:59 AM | Report abuse

Krugman is being strange.

There is no need for 'stimulus' to create inflation.

Given the right authority, the federal reserve can create inflation whenever it wants: Simply create money and distribute it in such a way that bypasses the liquidity trap. "Helicopter" Ben Bernanke got his name with a speech illustrating this very point. If the fed prints 1,000,000 dollar bills and flings them out of a helicopter over the the NY city, inflation will occur.

While I don't think the FED is going to fire up a helicopter anytime soon, they can engage in policies that have a similar effect (including greatly expanding the types of assets they purchase, purchasing assets at high prices, etc.).


Staticvars, I agree with your sentiment and inflation would help us manage our debt, but it is not the rationale for inflation.

Currently, businesses and citizens are holding onto cash like securities (short term debt instruments and treasuries) and cash as if they were valuable. Cash isn't valuable, it can be created at will. Higher inflation will cause participants holding cash to flee the currency and invest in productive assets that produce a return at least higher that inflation.

In other words, inflation is necessary now so that we can encourage money to flow to people who will use it productively rather than horde it.

Posted by: kevinadolph | September 2, 2010 2:28 PM | Report abuse

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