President Biden recently claimed he will reduce inflation. Really? Does he even know what causes it? For that matter, do writers for The Wall Street Journal know? Do you?
Here is a simple explanation you can use the next time you hear someone talk about inflation.
First, know that an “economy” is a system used to produce goods, like paper towels, and services, like accounting services. Why do prices for these things go up? We can better understand the reason if we use an imaginary economy, say, on an island, as an example.
Let’s say there are 100 people on the island and 90 of them produce goods like corn or services like filling a cavity in a tooth. To make things very simple we’ll say these 90 people create 90 units of production and they trade with each other using 90 units of currency. The currency can be large bills that can be broken into parts the way you break a $100 bill.
The guy growing corn, for example, gives some currency to the dentist for a filling, and the accountant gives some currency to the gas station for some gasoline, and so on.
And let’s imagine these 90 people also give some currency to the other 10 people who are left over. Let’s call them “the government.” The government guys use that currency for an army, for road construction and for other government activities.
Again, this is a very simple model, but it makes things understandable. To summarize, you have 90 people producing things privately and 10 people working in the government. There are a total of 100 units of goods and services and 100 units of “currency.”
Now imagine that the government decides to set up a “Department of Sustainable Equity” to conduct studies on “equality.” Well, it has to hire some people to conduct that study, so let’s say it hires some people who used to grow corn. Now there’s less corn, and if the demand for corn stays the same, the price will go up. That’s inflation.
So inflation can be caused when the government takes labor from the private sector, like the labor of people growing corn, and moves that labor to the public sector, like people studying “sustainable equality,” or “equitable sustainability.”
But inflation can happen in other ways also. For example, imagine Mother Nature floods the island’s cornfield. That would result in less corn, and if demand stays the same prices will go up. That’s another way to suffer from inflation. The same thing can happen if half your iron mines go empty. That would result in less iron and the price will rise. That’s inflation. Or the government can print more paper “currency” while private production is still at 90 units; that will cause inflation too.
And other things can happen the other way around, causing deflation. For example, Mother Nature can provide just the right amount of rain and sunshine and there could be a bumper corn crop. In that case, there will be lots of extra corn, and if demand stays the same, the price will go down. That’s deflation.
Deflation can be caused by other factors too, like improved technology. For example, if the technology of manufacturing flat-screen TVs gets better and more efficient, the cost of making them will go down, and so will their price. In fact, we’ve all seen that in recent years. That’s deflation.
Now, an economy can experience deflation in some parts, like the price of TVs, while also experiencing inflation in other sectors, like the price of gasoline. Over the long haul, however, government activity almost always causes inflation, not deflation.
After all, government employees don’t grow corn (not efficiently, anyway) and they don’t make TVs. They can take people away from those activities, but that will cause prices to go up, not down. And government employees can also issue new regulations that make it harder to refine gasoline, and that also raises prices.
So government growth and activity almost always cause inflation. Government activity almost never causes long-term deflation because the government usually makes it harder and more expensive to produce things, not the other way around.
When President Biden says he will lower inflation, therefore, it’s like a burglar saying he will reduce crime. He doesn’t know how. When he works, crime goes up, not down.
President Biden might say he knows how to reduce inflation, but all he really knows about is the opposite.
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