Inflation Tax
by Blake Johnson
I’d be interested to hear from those a bit more adept in economics interact with Congressman Paul’s views on the Inflation Tax. It makes good sense to me.
How long can we as a country live way beyond our means, pump fiat cash into the system, finance our debt through foreign countries, and continue to expand government at the rate it has grown under President Bush?
Posted by Blake Johnson at December 5, 2007 09:28 AM
I’d like to take first crack at this. Full disclosure: I’m not a Ron Paul fan. That said, there are kernels of truth in some of these criticisms.
Inflation is somewhat similar to a tax in that it reduces everyone’s buying power. Where I diverge with Paul is that, according to government statistics, we’re in an almost unprecedented period of low inflation. Perhaps there’s some argument about the accuracy of those statistics, but I don’t know enough about that to comment intelligently.
What is, in my view, indisputable, is the seemingly endless deficit spending being long term detrimental. The thing about deficits is how you’re going to stop them. There are only two options: raise taxes (which are already at historic highs) and lower spending. If you just put that option out there, it’s a no-brainer, and everyone will say cut spending.
The gigantic problem there is what to cut. Medicare/Medicaid, social security, and other entitlements are more than half the federal budget (68% for FY 2000). Interest is totally non-negotiable. What politician dares to touch the others, which are increasing every year as far as the eye can see?
Discretionary spending is less than 20%. How much of that can you really cut? Highway funds? Student Loans? Even if you took out every last dime of pork, it’s still not enough. So you’re stuck with deficit spending. About the most realistic solution I’ve seen is one ridiculed when Jack Kemp first put it forward - grow your way out of it. That would work, over time, if you can keep spending from growing faster than tax revenue growth.
Finally, on the weak dollar, whether that’s good or bad entirely depends on your perspective. Yes, if you want to buy a BMW, it will be more expensive. However, look at that from the opposite side. I read yesterday that Airbus is looking at putting a plant in Mobile county. Apparently the favorable rate of the dollar (from the European point of view) makes investment in the US (even in Alabama) very attractive.
The inflation tax is somewhat of a misnomer. Yes, a dollar has lost most of its value since the creation of the Federal Reserve (an infamous Paul quote). So, on the face of it, his argument looks good. Since I don’t have all day and I don’t want to bore you to death, I’ll prove him wrong by example. Suppose in 1913 you made $3000 and suppose a new car cost $3000, so you’d have to spend your entire income on a car. Imagine that you now make $60,000 and a car costs $60,000. Inflation has pushed up the cost of the car, but it has also pushed your wage. Therefore, in real terms, you’re no worse off. On average, people get a cost of living increase in order to offset inflation so, at the very least, you’re no worse off than last year. But, individuals tend to find ways to increase their income so that they make more than the inflation rate via more education, sucking up, switching companies and careers, etc. Also, prices tend to fall as competition and technology increase. So, in the end, a person’s income may increase by 20 times to $60,000 but the price of a car only increase by 10 times to $30,000. Therefore, individuals are better off in that their income will now purchase two cars.