Brad DeLong provides the raw material, and Paul Krugman adds some speculation to an account of unrelenting and unapologetic error on the part of those who would scare us about inflation, always just around the corner. Here are two further thoughts to chew on.
1. The paranoia about inflation is a widespread, longstanding phenomenon, with immense influence over public discourse and economic policy, and out of all proportion to the actual—and very history-specific—threat. It deserves to be studied by the normal tools of social science, the ones we devote to other significant political, religious and social ideologies. Obviously, political economy has a key role to play, insofar as net creditors, as a rule of thumb, benefit from less-than-expected inflation. (I give this a short treatment in my introductory macro text, due to be released in about a week.*) But I’d like to see the full range of analysis: social psychology, networks of influence, case studies, and any other tools that can replace speculation with solid understanding. The disinflation lobby is an important part of the political landscape and deserves careful study.
2. One aspect of the IV impact on our discourse that has particularly rankled me as an economics instructor is the deliberate propagation of what I call Type II money illusion. (Does anyone else use this terminology?) Type I is carefully explained in every introductory textbook: if you look only at your money income and ignore changes in the price level for the goods you buy, you will overestimate your true spending power. Governments are said to rely on this confusion when they engage in expansionary monetary policy, and one of the functions of Econ 101 is to innoculate the masses against it.
But there is also the reverse error, to observe changes in the price level of consumption goods but not the (roughly) corresponding increase in money income. This is circular flow stuff, as fundamental as it gets. It is an error for the public to think that a rise in inflation makes them, considered together, poorer—as if, with lower inflation, everyone would continue to get the same wage hikes and enjoy the extra consumption. Seeing the spending side of inflation and not the income side is Type II money illusion.
The interesting thing is not simply that lots of people (in my experience even a large majority) harbor this, but that it is actively purveyed by the media and even, on occasion, prominent members of the economics profession in their popular writings. “Good news for consumers! The latest report shows that inflation has come in below market forecasts.” “Inflation is the cruelest tax of all.” You know the drill. And that is exactly the way it works: it is drilled in, over and over, until money illusion becomes the shared reality and the few of us who recognize it as an error find ourselves reduced to shouting at passers-by (or at least our students), like incomprehensible fanatics.
I mention this partly to vent, but also because I think this massive, systematic disinformation really deserves to be studied. Why does it persist? Why do the economics textbooks not bear down on it like they do against Type I, even though far more people today are in the grip of this second kind of illusion? Political economy surely plays a role, but only indirectly, since most of the confusion is purveyed by people, like journalists and your Republican cousin at this summer’s family reunion, who have no direct interest one way or the other.
Note: I’m sure some people will read the above and immediately try to argue that inflation really does eat into spending power through a wealth effect. That’s a separate discussion (it could be true, but it doesn’t get rid of Type II money illusion, which is quite specific and impossible to defend), but note that wealth channels get complicated: you have to consider net and gross debtor and creditor positions, financial versus real assets, nominal versus real exchange rate movements for internationally diversified portfolios (and the degree to which these are baked into asset prices), and so on and on. Trust me: that’s not what most people are thinking about when they burble that of course inflation is bad because it reduces your real income.
*Don’t worry about the announced release date; I’m told it is imminent. And, no, it's not 109 pp. Closer to 4x.