Inflation - why do we need it?

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fairdinkum

fairdinkum

Norm Smith Medallist
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We are now told on an almost daily basis that the desired level of inflation is 2-3%. Above that and interest rates go up, below that and they go down.

Can anyone out there tell me why we don't aim for 0% inflation? That is, the $100 I earn today and stash under the house is worth $100 (that is, all things being equal, can buy me as much muesli, postage stamps, underpants etc) in 20 years time. Why do we not aim for this?

Having done some reading on my trusty ol' friend Wikipedia, it seems that most people agree that the printing of more fiat money is the cause of inflation. So why don't we stop printing money - or, at least, greatly reduce the printing?

Actually - that brings me to another point. When the State prints more money (I assume this is the responsibility of the Reserve Bank?) who gets it? And how much do we print? Where can you find out?

What is the benefit of inflation?
 

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So growth in the economy cannot come without inflation of the price of goods and services? That seems patently absurd.

And you have both failed to answer my other questions regarding the Reserve Bank.
 
Growth/Demand increases, prices increase = inflation

mate, i highly recommend you pick up an Economics textbook and read the first few chapters. Lots of people such as yourself have similar sorts of questions, having a basic understanding of Economics is useful. It'll help you understand why interest rates change, why the changes in the Aussie $ help/hurt Aussie farmers, how a budget surplus affects the economy etc etc.

The questions you are asking require answers that are longer than the ones i'm prepared to type. As I said, get a book.
 
Im an economics ignorant and dont mind saying so, but what happens when something grows and grows and grow???


You end up with this...

urban-sprawl-florida.jpg




Or this...

jabba.jpg
 
Yeah I don't know the answers either, read a book.
 
footylover18 said:
Growth/Demand increases, prices increase = inflation

mate, i highly recommend you pick up an Economics textbook and read the first few chapters. Lots of people such as yourself have similar sorts of questions, having a basic understanding of Economics is useful. It'll help you understand why interest rates change, why the changes in the Aussie $ help/hurt Aussie farmers, how a budget surplus affects the economy etc etc.

The questions you are asking require answers that are longer than the ones i'm prepared to type. As I said, get a book.
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On the contrary my good man, I am well versed in the theory behind currency vs. currency fluctuations, budget surpluses, interest rates etc.

But what still isn't clear is why we need inflation. It seems that it is largely caused by the Reserve Bank printing more money. You have failed to address whether this is indeed the case. Moreover, I am yet to see an answer in regards to how much money the Reserve Bank prints, and where it goes. If you were as smart as you think you are, surely you would have been able to explain this by now?
 
FIGJAM said:
Growth and inflation are different things, but are more often than not correlated.
Click to expand...

This I know. Thankyou for the first sensible reply thus far. :thumbsu:

It's why a 2-3% inflation / growth figure is seen as bearable / desirable. It's just a guide.
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2-3% growth makes sense - it seems sustainable. Grow too fast and you risk an almighty let-down.

But 2-3% inflation does not make sense. Why should the $100 I earn today depreciate in value? Why should I have to purchase precious metals, or invest in something, or put my money in a bank if I want to still have as much purchasing power in 20 years as I do now? Who benefits from that?

If someone out there is about to try to tell me 'Inflation goes up because prices go up, and prices go up because, as the economy grows, demand goes up' then my immediate response is 'In a 'growing economy', shouldn't supply go up as well?'
 

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midorigreenwood said:
Someones been watching Zeitgeist the Movie?
Click to expand...

I did see that film and loved it. Very entertaining.

It certainly heightened my curiosity regarding the Reserve Bank, and inflation.

That nobody (including the usually-reliable Wikipedia) has been able to give me a simple explanation as to why inflation is good/necessary, is concerning indeed...
 
My take is that they err on the 2-3% inflation as a safety margin to avoid deflation.

If We have deflation it risks margin calls in our now highly leveraged society, which will bring the whole economy down.

We actually averaged 2% inflation and 2% unemployment from 1951 - 1972.
 
We are now told on an almost daily basis that the desired level of inflation is 2-3%. Above that and interest rates go up, below that and they go down.

Can anyone out there tell me why we don't aim for 0% inflation? That is, the $100 I earn today and stash under the house is worth $100 (that is, all things being equal, can buy me as much muesli, postage stamps, underpants etc) in 20 years time. Why do we not aim for this?
Click to expand...
If the central bank aims to 2 or 3 per cent they may miss it and potentially get, say, 1 per cent. However, if the central bank aims to zero per cent inflation and gets -1 per cent inflation, then it is in trouble. Negative inflation, i.e. deflation, has historically has detrimental effects on the economy based on what we've seen in Japan. Read http://en.wikipedia.org/wiki/Deflation_(economics)

Another somewhat pessimistic hypothesis offered by economist Tyler Cowen is that inflation gives employers a way to decrease wages without having to do anything. If there were zero inflation and employers didn't like a particular workers, they could try to reduce that person's wages by 5 per cent. However, if the employer did this workers would go nuts. However, if there is inflation the employer doesn't have to do anything and the real value of wages will slowly erode. The hypothesis claims that workers tend to be dumb and therefore they feel the pain but don't realize what is happening.

Actually - that brings me to another point. When the State prints more money (I assume this is the responsibility of the Reserve Bank?) who gets it? And how much do we print? Where can you find out?

What is the benefit of inflation?
Click to expand...
The belief is that if the there is zero inflation and zero intervention from the central bank, we may have massive crashes e.g. Great Depression. The central bankers smooth out the business cycle, making it a less bumpy ride for us. For example, in Australia there is a property boom. People borrow heaps to invest in houses. However, if interest rates are pushed up then this may stop that, and this is good because too much investment in houses may bring about a house price crash.
 
fairdinkum said:
On the contrary my good man, I am well versed in the theory behind currency vs. currency fluctuations, budget surpluses, interest rates etc.

But what still isn't clear is why we need inflation. It seems that it is largely caused by the Reserve Bank printing more money. You have failed to address whether this is indeed the case. Moreover, I am yet to see an answer in regards to how much money the Reserve Bank prints, and where it goes. If you were as smart as you think you are, surely you would have been able to explain this by now?
Click to expand...

well, i'm not going to participate in this debate, as it's obviously an absurdist reaction to an early university class in economics - and frankly you can write your own essay ;)

on the one level, you are correct. you do not need to have inflation; much as you do not NEED to eat much beyond bread & water and live under the shelter of a cave.

need is a dangerous word.

by restricting the money supply at a fixed steady state, inflation will be zero. any shift in demand will just reallocate prices, until the market clears. if more people want shoes, the price will go up; but they will have less money for toys. the prices will go down.

thing is, it is impossible to meet your social objectives or fund economic growth in this way. if there is no more money in the economy how exactly do you finance business expansion & investment and create jobs? are you going to control population growth chinese style, so that there is no need for more jobs? obviously you will be banning trade with foreign markets, as the balance of payments may not be fundable without borrowing. so your economy better be self sufficient, unless you can convince the koreans to barter a truck of wheat for a TV set.

of course, you better be controlling those borders. cause your skilled people will want an economy with growth, jobs, increased lifestyle, consumer products, diverse career prospects etc. so they're going to emigrate, or die trying! (sound familiar :) )

a rigid monetary policy inhibits the use of fiscal stimulus to get the economy moving, encourage growth, ride out any shocks, and achieve social objectives (schools, hospitals, welfare etc.)

the question you need to answer for your assignment is not whether we 'need' inflation, but what are the other impacts on the economy as a whole if you do reduce it zero. is the cure worse than the disease?
 
FIGJAM said:
Growth and inflation are different things, but are more often than not correlated.
Click to expand...

Not so sure about that

Take the post war record of Germany vs South America. Inflation clearly lower and growth higher in the former.

Most third world countries have historically suffered from high inflation AND lower growth.

See also Australia in the 70s vs last two decades.
 
medusala said:
Not so sure about that

Take the post war record of Germany vs South America. Inflation clearly lower and growth higher in the former.

Most third world countries have historically suffered from high inflation AND lower growth.

See also Australia in the 70s vs last two decades.
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http://en.wikipedia.org/wiki/Hyperinflation#Root_causes_of_hyperinflation

"The main cause of hyperinflation is a massive and rapid increase in the amount of money, which is not supported by growth in the output of goods and services."

If you're looking at basketcases, then yeah, the lines can go in all sorts of bizarre directions.

If you look at it in theory, inflation and growth can quite easily affect each other in an opposite manner. Too much money contesting too few goods and services (ie. low growth) can lead to high inflation, and conversely an oversupply of goods or services could lead to deflation.

The preference is in the synthesis where there is sufficiently good economic activity to increase wealth whilst adequately servicing the demand. As it turns out, what seems to work, at least in a growing population such as ours, is an the low percents per annum. As it turns out the best option is generally correlated.
 
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