Why do we have to beat inflation

Inflation is not coming, it has long been there

The central banks are flooding the system with money. Not just since Corona. Investors flee into real assets, new bubbles appear. Do we have to be afraid? And if inflation is a threat, is deflation a blessing?

At the same time, the pandemic is already having short-term, inflationary consequences, as can be seen in supermarkets and restaurants.

It's back, the fear of inflation. In view of the money printing programs of the central banks and the corona packages of the states, this is no wonder. Gold, stocks, real estate and even crypto currencies are suddenly enjoying great popularity in the middle of the rubble of the Corona crisis, because many investors flee into real assets for fear of inflation. The inflation rate is far too low for the central banks.

Especially Fed chief Jay Powell. He gives interviews in which he speaks of “printing money”. Now he has set a new goal: the inflation rate should initially overshoot. The "Money Printer" even made it to meme status.

Inflation: "It's not a bug, it's a feature"

So there seem to be many good reasons to be afraid of inflation 4. And yet economists argue. So how about inflation. Do we have to be afraid or not?

Actually, the thing is simple: when prices rise and the purchasing power of money falls, there is inflation. When prices fall and the purchasing power of money increases, there is deflation. In our system, inflation is the norm. The central banks even define “price stability” as an inflation rate of around two percent. In other words: every year our money should lose two percent of its value. "It's not a bug, it's a feature," they say. Let's take the euro. A product that cost exactly 100 euros when it was launched in 1999 is now on the price list for 143 euros.

Inflation is the norm in our system

Investors prefer to put their money, the value of which is permanently diluted by the central banks, into stocks like this rather than into savings accounts.

So if you are only afraid of inflation today, you are a little late. Yes, the reported inflation rates have mostly been below the limit of two percent in recent years. But the popular claim that “there is no such thing as inflation” is simply wrong.

The devaluation of our money is permanent and all-encompassing. It drives our economic and social system before it. It is behind the feeling of a hamster wheel turning faster and faster. It is the reason for rising wages, rents and supermarket prices. For ten years now, in cooperation with extremely low interest rates, it has prevented savings account savers from building up capital. It drives inequality because investors are rewarded when real estate, stocks, precious metals, and other assets rise in price. It is the reason why we need words like “adjusted for inflation” and “real interest” in the first place.

Two percent devaluation per year: Inflation is a hidden tax that hits everyone - but especially those who do not understand it.

The economic crisis brings bad deflation

There are, however, factors that counteract it. An economic crisis like the one we are currently seeing tends to be deflationary. People spend less money, which slows down inflation. Companies go bankrupt, loans are not serviced. Investments are being postponed. Such developments make central bankers sweat with fear. Because this form of deflation can trigger a fatal downward spiral. She is money driven.

But: inflation is the norm. It should stay that way. That is why the money locks are opened in the crisis. You replace money that has been lost in bankruptcies and canceled expenses. The central banks support the global economy like the governments support companies that cannot pay their rents. They flood the system. Money, money and more money. Central banks cannot go bust either. You print that stuff, yeah. Via touch of a button.

Technology brings good deflation

But the game is not that easy. It gets harder every year. More and more money is needed to achieve growth. In addition, technology, competition and globalization are powerful deflationary factors. Thanks to the smartphone, we no longer need digital cameras or calculators. We don't write letters, we write e-mails or chat messages. Google provides us with the knowledge of all libraries in the world for free. We zoom in to the other end of the world and if we do fly, then with the low-cost airline. Competition and technical progress, driven by what is known as Moore's law, make life and work more efficient and cheaper.

This deflationary factor is roughly estimated by statisticians, but its true scope is difficult to quantify. Because the power of computers does not increase linearly but exponentially. The US author Jeff Booth has written a fascinating book about it: "The Price of Tomorrow". This deflation is good, says Booth. She helps us. It makes life easier. It will continue to work and at a surprising speed - for the benefit of all. But it does not fit into the central banks' inflationary concept.

This is another reason why they will step on the gas more and more in the coming days, weeks and months. Cooperation with governments will intensify. Corona offers the perfect stage for infrastructure investments, economic stimulus programs and even direct payments to the population. Once the problems caused by the crisis have been overcome, concerns about inflation are justified in the medium term. At the same time, the pandemic is already having short-term, inflationary consequences, as can be seen in supermarkets and restaurants.

Can the central banks even win?

And it has long-term consequences on the markets. We are currently inflating a tech bubble again because companies like Amazon and Microsoft are benefiting from technical progress - and from the consequences of the pandemic. Investors prefer to put their money, the value of which is permanently diluted by the central banks, in stocks like this rather than in savings accounts.

Nobody knows how this game will end. Jeff Booth argues that central banks cannot win the battle against good, technology-driven deflation. The result would be a paradigm shift on an epoch-making scale. But until then, the post-war inflationary script will continue. The hamster wheel turns faster. And faster. And faster. Until it jumps out of its anchorage and rolls away.

Disclaimer:This text as well as the notes and information do not constitute investment advice or a recommendation to buy or sell securities.

Column "Young Money" by Nikolaus Jilch on "derbrutkasten.com" (08/28/2020)

  • Author: Nikolaus Jilch
  • Topics: Euro
  • Date: August 31, 2020