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| Robbery by any other name |
| Hugo Dixon / Mar 09, 2010, 00:34 IST |
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Inflation: Inflation’s siren seductions should be resisted. Some pundits, including Reuters Breakingviews’ Edward Hadas, argue that a spot of inflation could be just the remedy to bail out those who borrowed too much in the heady days before the credit crunch. But the flipside of a deliberate inflation policy would be that savers would be robbed. That would be bad policy.
The current debate started with Olivier Blanchard, the International Monetary Fund’s head of research, who argued that a slightly higher target inflation rate - say around 4 percent a year - would have given the monetary authorities more freedom to react when the economy fell off a cliff. Cutting nominal interest rates to zero, in such an environment, would mean that “real” interest rates were minus 4 per cent. That's double the stimulus than can be obtained nowadays when the target inflation rate around the world is roughly 2 per cent.
There may be something in this argument if the new higher target inflation rate was announced ex ante - so that everybody knew the rules of the game. But Hadas goes one step further.
He wants the rules to be changed after the event, with inflation being created now to bail out the borrowers. Such ex post revisionism would amount to expropriation of savers - who would suffer erosion in the real value of what they had squirreled away.
It could, of course, be said that the difference between 2 percent and 4 percent inflation is fairly minimal - and so the robbery inflicted on savers would also be small. That’s true. But the benefit enjoyed by borrowers would also be comparatively minor. To make a real dent in the debts of profligate governments, homeowners and leveraged buyouts, inflation would need to be much more than 4 percent - and would need to be sustained for several years.
And this is what is insidious about the inflationists’ proposal. Once it is accepted that there’s nothing too wrong with 4 percent inflation, it’s a small step to people arguing that what’s really needed is 10 percent inflation for five years. That would be real robbery. What’s more, it would then be extremely hard to switch the inflation off. The global economy would probably need to endure a cold turkey similar to that of the early 1980s when inflation last had to be uprooted.
Hadas’ proposal should be resisted not just because it amounts to a one-off expropriation, but also because of its bad effect on incentives. In his world, debtors would have discovered that it pays to run up big debts. And savers would realise that it is foolish to save. The Western world’s excessive propensity to borrow would be further encouraged. Is this really the lesson we want people to draw from the crisis?
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