She Said That? 7/10/15

Today’s quote is from Janet Yellen, a paragraph from a speech she gave today at the City Club of Cleveland. The entire speech was a mind-numbing 3,803 words, or a little over nine single-spaced pages. The quote was towards the end of the speech and most of the audience had probably already left the room, which is perhaps why it has not got a lot of attention.

Very low inflation may not sound like a real problem to many people. However, persistently low price inflation, which can tend to slow the pace of wage increases over time, can weaken the economy by, for example, making it more difficult for households and firms to pay off their debts. A persistent, very low inflation environment also tends to result in chronically low short-term interest rates. This type of situation would leave less scope for the FOMC to respond with its conventional monetary policy tool–namely, a cut in the federal funds rate–to counteract a weakening in the economy.

Very low inflation is indeed a problem, but not in the way Ms. Yellen suggests. In a free market economy with an honest money system that cannot be manipulated by feckless monetary mandarins, deflation will be the order of the day and low interest rates will follow. Why? Because capitalism constantly raises productivity—businesses continuously lower costs—and competition forces producers to lower prices as well. Declining prices are incorporated into interest rates. Lo and behold, when the world got as close as it ever got to free market economics, the Industrial Revolution, prices declined, which meant that real incomes increased even more than nominal incomes, and interest rates were low. Those facts are not found in most history or economics texts, but they are indeed facts, easy to confirm on the Internet with a five-minute search.

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