Price Inflation

As we discussed in podcast a couple of weeks ago, the common definition of inflation is incorrect and obfuscates the real cause. Inflation, until recently, has always been defined as an increase in the money supply. Increasing the money supply, or inflating, has the consequence of increasing prices throughout the economy, whether these are consumer goods or capital goods.

Most mainstream economists wrongly define inflation as being an increase in the price level. First of all, defining a “price level” is quite an impossible and futile task. Measuring consumers’ subjective valuations and aggregating those in an average cannot be done.  For example, as people get older, they tend to consumer more medical services, which in the US, have been going in prices at a very fast level. In other words, the “price level” for somebody in their 70’s-80’s is quite different from the “price level” of somebody in their 20 or 30’s.

Many people dismiss that having a proper definition of inflation is important at all. What they don’t see is that by wrongly defining inflation they are concealing the source of these price increases, which is always the central bank increasing the money supply. The mainstream media always blames price inflation on some other cause, rather than blaming the monetary authority. Whether it’s the “evil speculators”, “greedy OPEC” or other boogiemen of the day, the media hides the true source of these price increases. The CNNMoney article below is a clear example of this:

On a monthly basis, CPI rose 0.5% in December, from 0.1% growth the previous month -- the largest monthly move since June 2009. Economists surveyed by Briefing.com had expected a 0.4% rise in December.

Most of that increase was due to gasoline prices, which surged 8.5% in December alone, as commodities rallied.

The U.S. Consumer Price Index, a key measure of inflation, increased 1.5% over the past 12 months ending in December, up from 1.1% in November, the Bureau of Labor Statistics said.

Core CPI, which strips out volatile food and energy prices, is still at a historic low, after rising a mere 0.8% for the entire year, and only 0.1% for the month.

“Core CPI” applies to you if you don’t drive and don’t eat. I guess there isn’t that many people who can live without transportation or food. This measure of price inflation is completely bogus and tries to obfuscate the real cause as mentioned earlier.

When all prices rise, it is not a matter of the supply of goods, or another good, like gasoline rising in price, cause price increases. When all prices rise, it simply means that the currency is depreciating (in other words, the supply of money is increasing).

More importantly, people have adjusted to the fallacy that price inflation is a “fact of life”. Quite the contrary, in a growing economy, price decreases every year are a result of higher productivity in the economy and should be welcomed. The 19^th century in the US was a period of unprecedented economic growth accompanied by appreciation of the currency. In fact, a dollar in 1900 bought as much as double the amount of goods that it did in 1800.

http://research.stlouisfed.org/fred2/graph/?s[1][id]=BASE

As the money supply keeps increasing, the dollar will continue to depreciate vis-à-vis goods, in particular commodities. As a hedge for the next couple of months, it is indeed a very good idea to invest in agricultural commodities. And don’t forget, the mainstream 90% of the time misses the point and outright lies to the public, so don’t believe most of the news out of the media.