Inflation is defined as an increase in the general price level.
The price of something is determined by the ratio between the value of a dollar and the value of that thing. (?)
The value of a dollar comes from, er, somewhere? You need dollars to pay taxes? Everyone else wants dollars so you want them to trade them with those suckers who want them? Something about oil?
The government can "dilute" those dollars by printing more, in effect taking value from everyone who holds dollars, or "concentrate" dollars by destroying them?
Fractional reserve banking, de facto, means that when you take a loan the dollars are minted and when you repay a loan the dollars are destroyed. The government can increase the supply of loans by lowering the reserve ratio or their discount rate, and increasing the supply of loans means more loans are taken, which means more dollars are created, so they can "create" dollars by increasing the supply of loans or destroy dollars by decreasing the supply of loans.
The government can also borrow money, but I have no idea about the effects are of government borrowing so I'm going to ignore it
When there's inflation, the profit-maximizing behavior is to raise prices. When there's deflation, the profit-maximizing behavior is to lower prices
People are irrationally unwilling to lower their prices, so deflation leads to people making less profit, which makes them worse off, so the government really wants to prevent deflation and will tolerate some inflation if that's what it takes
Everyone knows the government can't make sure inflation is 0, so instead they try to make inflation be about 2%, so even if they mess up and miss that goal by a little at least it's better than deflation.
That all makes sense so far.
It seems like a problem is that inflation has some "lag". The prices go up at the store before the price of my labor goes up. So for a while, my purchasing power goes down. I suspect that the reason that deflation intuitively sounds like such a good deal is that people assume that the lag will exist there too, so people's purchasing power will go up for a bit.
If the fed came to me and asked "hey, we need to print more dollars and get them out there with as little lag as possible, what should we do?", the first approach that would come to mind would be to print a bunch of money and give it to everyone equally.
But there's an asymmetry: you can give dollars to everyone and most people won't complain, especially if it's for a worthy cause like preventing deflation which would cause a recession. But you can't as easily take the dollars away from everyone equally because some people might not have any for you to take. (You could indebt those people, but that intuitively seems like a pretty bad idea to me.)
So I've been playing with another idea: Make a federal bank account, and when you want to change the supply of money, multiply the balances of everyone's federal bank accounts by some constant. (If they think you're going to multiply their bank accounts by a number less than one, they'll take their money out, but hopefully if you're doing a good job at being a central bank no one will know in advance what you're going to do, because these decisions will be made by a subsidized prediction market and to predict its movements you'd have to violate EMH, and anyone who can violate EMH that has better things to do than take their dollars out of their federal bank account.)
Consider the case where the fed wants to create inflation:
The current way privileges people who take loans. Since people who take big loans tend to have good credit, and people who have good credit tend to be wealthier than average, the current system kind of a transfer to the wealthier than average. Meanwhile, my suggestion would privilege people who keep their cash in the federal bank account. Poor people keep a larger percent of their net worth in cash, so my proposal would be a transfer to the poor.
Consider the case where the fed wants to create deflation:
The current way has the desirable property that poor people (who don't take many loans) are basically unaffected. But it has the undesirable property that the reduction in the supply of money is gradual at some level, because it works by people repaying loans and then not taking new ones. But it's also not gradual at another level, because having the option of taking a loan in the future might make you more spendy in the present (knowing you could get a loan is a kind of asset). Also, EMH says it doesn't matter how gradual it is, because if everyone knows the value of money is going to change tomorrow they're going to act like it's tomorrow's value today. Let's call this one a wash.
I'm mostly just posting this because I think macro is fun to talk about and this thought experiment has been good at getting me thinking about it. Plus I didn't want my first post to be about some degen CW twitter controversy. Anyone have any thoughts?
p
Here's everything I know about macro:
Inflation is defined as an increase in the general price level.
The price of something is determined by the ratio between the value of a dollar and the value of that thing. (?)
The value of a dollar comes from, er, somewhere? You need dollars to pay taxes? Everyone else wants dollars so you want them to trade them with those suckers who want them? Something about oil?
The government can "dilute" those dollars by printing more, in effect taking value from everyone who holds dollars, or "concentrate" dollars by destroying them?
Fractional reserve banking, de facto, means that when you take a loan the dollars are minted and when you repay a loan the dollars are destroyed. The government can increase the supply of loans by lowering the reserve ratio or their discount rate, and increasing the supply of loans means more loans are taken, which means more dollars are created, so they can "create" dollars by increasing the supply of loans or destroy dollars by decreasing the supply of loans.
The government can also borrow money, but I have no idea about the effects are of government borrowing so I'm going to ignore it
When there's inflation, the profit-maximizing behavior is to raise prices. When there's deflation, the profit-maximizing behavior is to lower prices
People are irrationally unwilling to lower their prices, so deflation leads to people making less profit, which makes them worse off, so the government really wants to prevent deflation and will tolerate some inflation if that's what it takes
Everyone knows the government can't make sure inflation is 0, so instead they try to make inflation be about 2%, so even if they mess up and miss that goal by a little at least it's better than deflation.
That all makes sense so far.
It seems like a problem is that inflation has some "lag". The prices go up at the store before the price of my labor goes up. So for a while, my purchasing power goes down. I suspect that the reason that deflation intuitively sounds like such a good deal is that people assume that the lag will exist there too, so people's purchasing power will go up for a bit.
If the fed came to me and asked "hey, we need to print more dollars and get them out there with as little lag as possible, what should we do?", the first approach that would come to mind would be to print a bunch of money and give it to everyone equally.
But there's an asymmetry: you can give dollars to everyone and most people won't complain, especially if it's for a worthy cause like preventing deflation which would cause a recession. But you can't as easily take the dollars away from everyone equally because some people might not have any for you to take. (You could indebt those people, but that intuitively seems like a pretty bad idea to me.)
So I've been playing with another idea: Make a federal bank account, and when you want to change the supply of money, multiply the balances of everyone's federal bank accounts by some constant. (If they think you're going to multiply their bank accounts by a number less than one, they'll take their money out, but hopefully if you're doing a good job at being a central bank no one will know in advance what you're going to do, because these decisions will be made by a subsidized prediction market and to predict its movements you'd have to violate EMH, and anyone who can violate EMH that has better things to do than take their dollars out of their federal bank account.)
Consider the case where the fed wants to create inflation:
The current way privileges people who take loans. Since people who take big loans tend to have good credit, and people who have good credit tend to be wealthier than average, the current system kind of a transfer to the wealthier than average. Meanwhile, my suggestion would privilege people who keep their cash in the federal bank account. Poor people keep a larger percent of their net worth in cash, so my proposal would be a transfer to the poor.
Consider the case where the fed wants to create deflation:
The current way has the desirable property that poor people (who don't take many loans) are basically unaffected. But it has the undesirable property that the reduction in the supply of money is gradual at some level, because it works by people repaying loans and then not taking new ones. But it's also not gradual at another level, because having the option of taking a loan in the future might make you more spendy in the present (knowing you could get a loan is a kind of asset). Also, EMH says it doesn't matter how gradual it is, because if everyone knows the value of money is going to change tomorrow they're going to act like it's tomorrow's value today. Let's call this one a wash.
I'm mostly just posting this because I think macro is fun to talk about and this thought experiment has been good at getting me thinking about it. Plus I didn't want my first post to be about some degen CW twitter controversy. Anyone have any thoughts?
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