Transcript INFLATION
INFLATION INFLATION OR DEFLATION, TELL ME IF YOU CAN… WILL WE BE ZIMBABWE OR WILL WE BE JAPAN? INFLATION IS A GENERAL INCREASE IN PRICES OVER TIME, OR A GENERAL DECREASE IN THE VALUE OF MONEY “I REMEMBER WHEN $400 BOUGHT AN ENTIRE CAR” “I JUST BOUGHT FOUR TIRES FOR ONLY $400” THE MOST COMMON WAY TO MEASURE INFLATION IS WITH THE CONSUMER PRICE INDEX (CPI) THE CPI TAKES A REPRESENTATIVE SHOPPING BASKET OF COMMONLY PURCHASED GOODS AND SERVICES AND TRACKS HOW THE PRICE OF THAT BASKET OF THINGS CHANGES OVER TIME. CONSUMER PRICE INDEX IF, IN 1920 THIS BASKET COST $20.00 TO FILL AND IN 2012 IT COST $200.00 TO FILL WITH THE SAME ITEMS THEN THE PRICE LEVEL IN 2012 IS TEN TIMES WHAT IT WAS IN 1920 OF COURSE, ECONOMISTS HAVE TO ACCOUNT FOR CHANGES IN CONSUMPTION BEHAVIOR CHANGES IN THE PRIORITIES OF CONSUMERS CHANGES IN TECHNOLOGY THE CPI DOUBLED FROM 1985 TO 2009, SO ON AVERAGE THINGS COST T WICE AS MUCH IF AN APPLE COST $.50 IN 1985 ODDS ARE IT COST ABOUT $1.00 IN 2009 A DOUBLING OF PRICES IN 24 YEARS SOUNDS LIKE A LOT OF INFLATION BUT IN FACT IT AVERAGES OUT TO ONLY ABOUT 3% PER YEAR. THE RULE OF 72 SAYS THAT WITH INFLATION OF 3% PER YEAR, PRICES WILL DOUBLE IN ABOUT 72/3 = 24 YEARS. WHAT CAUSES INFLATION? WHAT IS MONEY? CASH ANYTHING YOU CAN BUY STUFF WITH CHECKBOOK MONEY CREDIT LOANS WHY DID HOUSING PRICES RISE SO RAPIDLY IN THE EARLY 2000 S ? LOWER INTEREST RATES ALLOWED PEOPLE TO BORROW MORE AND BID UP PRICES HIGH LEVELS OF INFLATION IN POST WORLD WAR II AMERICA RATIONING, PRICE CONTROLS AND PATRIOTISM PENT UP DEMAND WAS RELEASED AFTER THE WAR DRAMATIC INCREASES IN GOVERNMENT SPENDING CAN CAUSE INFLATION LBJ CREATES THE “GREAT SOCIET Y” LBJ EXPANDS THE VIETNAM WAR THE PRICE INDEX IN THE LATE 1960s RAPIDLY ACCELERATED FROM THE SPENDING INFLATION CAN ALSO BE THE RESULT OF A SUPPLY SHOCK THE O.P.E.C. OIL EMBARGO IN THE FALL OF 1973 SPURRED AN 11% RATE OF INFLATION IN 1974 SEVERE DROUGHT IN 2012 AND THE IMPACT ON CORN PRICES • HALF THE CORN CROP LOST • U.S. PRODUCES 40% OF THE WORLD’S CORN • GLOBAL FOOD SHORTAGES • CATTLE FEED PRICES UP • MEAT AND DAIRY PRICES UP • ETHANOL PLANTS IDLE • GAS PRICES SPIKE • HIGHER DELIVERY COSTS THUS RETAIL PRICES • AIRLINE TICKET PRICES UP • TOURISM REVENUE DOWN • HIGHER HOUSEHOLD WATER PRICES AS MORE IS DIVERTED FROM CIVIC USE INFLATION IS PARTICULARLY MADDENING BECAUSE PEOPLE SUFFER FROM MONEY ILLUSION HAVE YOU EVER HEARD SOMETHING LIKE THIS? $3.00 FOR A GALLON OF MILK!!!? I REMEMBER WHEN IT WAS $.72 A GALLON THE OLD MAN HAS COMPARED THE NOMINAL PRICES OF MILK BASED ON OUR PREVIOUS COMPARISON, IF WE ADJUST FOR INFLATION, THAT $.72 GALLON OF MILK IN 1920 SHOULD COST $7.20 IN TODAY’S DOLLARS. THE REAL PRICE OF MILK HAS ACTUALLY FALLEN IT ALSO TAKES FEWER HOURS OF LABOR TO BUY THINGS THAN IN THE PAST IF MY WAGE WAS $.75/HR IN 1920 ONE HOUR OF LABOR TO BUY MILK IF MY WAGE IS $15.00/HR IN 2012 12 MINUTES OF LABOR TO BUY MILK INFLATION MAKES IT DIFFICULT TO COMPARE MONEY TODAY WITH MONEY TOMORROW INFLATION ERODES THE GAINS FROM SAVINGS INFLATION MAKES IT DIFFICULT TO PREDICT PROFIT SAVERS AND LENDERS ARE REWARDED WITH A RATE OF INTEREST FOR THEIR RISK 5 - NOMINAL ANNUAL RATE OF RETURN OFFERED BY THE BANK 3 ANNUAL RATE OF INFLATION = 2 REAL RATE OF RETURN ON INVESTMENT THE GAINS WILL BE LESS THAN YOU EXPECTED BUSINESSES WILL INVEST IN NEW CAPITAL OR LABOR IF THEY BELIEVE THE REVENUE POTENTIAL IS GREATER THAN THE COST THE PROBLEM IS IF YOU DON’T KNOW WHAT THINGS WILL COST, IT’S DIFFICULT TO ESTIMATE REVENUES. LARGE AMOUNTS OF INFLATION CAN CAUSE SERIOUS DAMAGE TO ENTIRE ECONOMIES ZIMBABWEAN GOVERNMENT GOES ON A SPENDING SPREE PRINTED CURRENCY TO PURCHASE FOREIGN RESERVES AND PAY OFF ITS DEBTS TO THE IMF PRINTED MORE CURRENCY TO PROVIDE 900% PAY RAISES TO POLICE AND ARMY PERSONNEL PRINTED MORE CURRENCY TO PURCHASE OXEN AND PLOWS FOR THE RURAL FARMERS SHOPS CAN ONLY CASH CHECKS IF THE CUSTOMER WRITES IT FOR T WICE AS MUCH, THE VALUE WILL BE HALVED BY THE TIME IT CLEARS NOT ENOUGH MONEY IN THE ECONOMY CAN BE EQUALLY DEVASTATING DEFLATION CONSUMERS LOSE CONFIDENCE AND STOP SPENDING PRICES FALL WAGES FALL AS A RESULT OF LESS BUSINESS INCOME CONSUMER DEBTS INCREASE AND EXISTING OBLIGATIONS BECOME HARDER TO MEET PEOPLE CUTBACK AND SAVE MAKING MATTERS WORSE JAPAN JAPAN’S LOST DECADES THE NATION’S EXTRAVAGANT LIVING IN THE 1980S LED TO THE BURSTING OF AN ASSET BUBBLE THE GOVERNMENT INCREASED INTEREST RATES TO CONTROL PRICES JAPAN’S AGING POPULATION REJECTED EXCESS AND REDUCED SPENDING COMPETITION FROM OVERSEAS FORCED JAPANESE COMPANIES TO REDUCE PRICES INTEREST RATES HAVE FALLEN BUT THE GOVERNMENT REFUSES TO INFLATE THE CURRENCY OUT OF DEFERENCE TO THE ELDERLY PRICES AND WAGES REMAIN DEPRESSED T WENT Y YEARS LATER IN RESPONSE TO THE GREAT RECESSION, OUR GOVERNMENT HAS TAKEN EXTRAORDINARY MEASURES BAILING OUT BANKS AND INDUSTRIES, AND BUYING BONDS EXTENDING TAX CUTS AND EXPANDING WELFARE YET THE U.S. ECONOMY HASN’T REBOUNDED WITH ANY ENTHUSIASM UNEMPLOYMENT IS STILL HIGH CONSUMER AND BUSINESS CONFIDENCE IS LOW WILL THE U.S. BE ZIMBABWE OR JAPAN? WILL OUR OLD SPENDING WAYS RETURN AND ALL OF THE MONEY GENERATED AS FISCAL AND MONETARY RESPONSES TO THE CRISIS FLOOD THE ECONOMY? OR WILL THE DEPRESSION IN THE HOUSING MARKET AND LOW CONFIDENCE IN THE PROSPECTS FOR THE U.S. PLACE THE NATION IN A RUT?