TJP

Inflation Targeting is Immoral

By Byron A. Ellis - March 08, 2010

The media, economists, or policy makers seldom discuss the effects of monetary policy on the economy. Similarly, Ryan Grim from Huffington Post noted that they seldom discuss the effects of war spending on the deficit. Such avoidance of discussing the effects monetary and war spending policies on the economy should be troublesome to the average citizen.

Classical economists believe in the neutrality of money, they argue that money only affects prices. However, some classical economists accept that in the short run money aggregates affect the level of output and employment. Nonetheless, they argue that the effects disappear in the long run.

The long run, however, is made up of many short runs. Therefore, the aggregate effects of the short runs prevail in the long run.

The “new consensus” view on monetary policy articulated by Bernanke and colleagues at the Federal Reserve (Fed) is the control of interest rates by central banks to keep inflation low. They argue that by keeping inflation in check, central banks are able to keep capitalist economies in a non-accelerating rate of unemployment (NARU) state.

In a monetary or credit economy, the availability of money is necessary for spending decisions. Moreover, the banking system is necessary for granting loans to entrepreneurs, who use them to hire workers. Furthermore, the granting of loans by the banking system as a whole expands the money supply. Hired workers’ wages purchase goods and services from merchants. Merchants use their earnings to buy commodities from entrepreneurs. And, entrepreneurs use their earnings to repay the banks.

When the Fed increases the cost of money (interest rates) to tame inflation, bank credit becomes scarce and it adversely affects the production process. Under tight credit, entrepreneurs are unable to receive loans to pay for inputs to the production process (workers’ wages), leading to unemployment of productive resources.

Thus, emphasis on fiscal policy by the media, politicians and some economists is misplaced. The mechanism for job creation, as well as contraction, lies with the Fed and the banking system as a whole.

Perhaps, the reason why politicians prefer to ignore the critical function of monetary policy in creating and terminating jobs is because such control resides with non-elected officials. Moreover, when the Fed keeps interest rates high (restricting the money supply), it only benefits the wealthy.

John Maynard Keynes warned against the instability of rentier capitalism. When the Fed keeps the money supply (M1) fixed or decreases it, by increasing interest rate, the income of the rentiers increases. For example, refinancing debt accumulated by entrepreneurs and homeowners increases bank’s profits when interest rates are high. Therefore, given a fixed supply of money, as the rentiers’ share of income increases, the shares of the entrepreneur and wage earners diminish.

The banks also use low introductory credit card rates to snare potential credit card users, and once the introductory rate period lapses, they often apply usurious interest rates of up to 30 percent. Transfer of wealth from entrepreneurs and workers to the rentier class reduces effective demand.

Keynes attributed the cyclical failures of capitalism to the inadequacies of income distribution. Such market failures are the hallmark of historically discriminated communities and dictatorships.

The goal of a just society ought to be full employment. Therefore, the practice of inflation targeting is unpatriotic and immoral; it deprives citizens of work opportunities.

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