Inflation Finding the right balance

• Pages: 11

Page 11

The Problem of inflation is as old as money itself. In ancient Rome, the debasement of silver and gold coins by Nero and his successors triggered a mild inflation that lasted a few centuries, until a misguided currency reform by the emperor Aurelian in the third century caused inflation to soar. Egypt experienced runaway inflation in 324. Inflation hit China, the first country to print paper money, in the eleventh century, when the authorities issued too many notes after spending huge amounts of cash -coins made of base metal-to buy off potential invaders and pay for imports.

Although how much harm is done by mild inflation is still a matter of debate, no one questions that galloping inflation-hyperinflation-which makes money virtually worthless, has been responsible for much human misery, fueling social turmoil and toppling governments.

The fear of high inflation is so strong that policy-makers may hesitate to take steps to fight its obverse, deflation. According to J. K. Galbraith's assessment in The Great Crash 1929, so terrible were the memories of the hyperinflations and speculative booms of the early 1920s that the U.S. Federal Reserve Board continued to pursue anti-inflationary tactics in the midst of "the most violent deflation in the nation's history." Paul Krugman, in "What's Wrong with Japan?," an article originally published in Nihon Keizai Shimbun and reprinted in The Accidental Theorist , speculated that a similar phenomenon might be at work in Japan today: bad memories of the "bubble economy" of the 1980s, which some economists attribute to loose monetary policy, may explain Japan's reluctance to reflate its economy by increasing the money supply. But the kind of general, sustained inflation- with average prices apparently rising in perpetuity-we have seen since World War II is a recent phenomenon. Historically, when price levels went up, they always came down again. Deflation was common in the eighteenth and nineteenth centuries; the price level in the United States actually dropped 50 percent in the nineteenth century. Some economists think that there is a risk of deflation today.

Both...