Friday, 26 July 2013

Raised inflation expectations raises demand?

A popular view is that if a central bank raises inflation expectations, demand will rise because significant amounts of money will be spent before it loses its value.
But there is a problem, pointed out by George Selgin, namely that it’s not just BUYERS who notice the increased forthcoming inflation: it’s SELLERS AS WELL!!!! So if for the sake of argument, and plucking numbers out of thin air, inflation induces buyers to up their spending by X% as from tomorrow, and sellers are induced to raise their prices by X% as from tomorrow, all you get is more inflation and no increased real demand.
Tee hee.
But there’s worse to come.
Suppose households or the private sector generally aims to maintain a given level of money savings in REAL TERMS (a not unreasonable assumption). Or more generally, and putting it in MMT parlance, suppose the private sector aims for a given level of “net financial assets”, again in real terms.
In that case, far as I can see, raising inflation expectations would induce the private sector to SAVE MORE rather than SPEND MORE. 

Conclusion: . . . quite apart from the inherent costs of more inflation, raising inflation expectations with a view to raising demand has serious potential pitfalls. It’s not worth trying.

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