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Sunday, April 14, 2019

How Big Government Politicians Cause the Inequality They Claim to Fight

Inflation is a silent tax: everyone knows it’s there, but not many people feel threatened by it because it seems like it’s under control.x

Image Credit: DoD photo by U.S. Air Force Staff Sgt. Marianique Santos

With the 2020 presidential election on the horizon, there are currently over 15 serious Democratic contenders competing for the party’s nomination. Some candidates, like Andrew Yang, have detailed policy proposals they are consistent about. Others seem to keep maneuvering left with their positions in order to outflank their competitors, while a few seem content to be like weather vanes, ready to move in whatever direction the winds of populism are blowing.

It’s a diverse group, but the one thing they have in common is that they are running on the platform that capitalism is broken—and only politicians can fix it. We’re told that income inequality is a great threat to American society, that the gap between rich and poor has been widening for almost 50 years, and that if it keeps on going like this, the bottom half will grab the pitchforks and society will collapse. According to them, the only solution to save the middle class is the implementation of massive government social programs that can redistribute wealth to make everything fairer.

Monetary Policy

With $22 trillion dollars in federal government debt that is now adding $1 trillion more to the pile every year, a sane person can recognize that more massive spending is not a good idea because we can’t even properly manage our already massive spending. To be fair, Republicans are also guilty of not practicing what they preach when it comes to fiscal conservatism. Since 2000, we have had 12 years of Republican presidents and 14 years of Republicans controlling the House of Representatives, and the debt increased by more than $15 trillion dollars in that time.

Assuming that defaulting on the debt is not an acceptable solution, the United States needs to reverse spending and pay down the debt. One tool in their box to silently do this without causing much attention is through manipulating monetary policy. Deflation and inflation are two disastrous consequences of poor monetary policy. However, this has the unintended consequence of hurting the poor and middle classes.

Deflation and inflation are two consequences of poor monetary policy that can have disastrous effects. Since 1913, the Federal Reserve has been charged with managing the monetary supply of the United States with the goal of maintaining financial stability.

Deflation Can Ruin Economies

There are many causes that contributed to turning the recession of 1929 into the Great Depression, and one of those factors was deflation. The amount of money in the US economy decreased as stock market losses wiped out wealth, banks failed and lost their depositors savings, and people chose to keep money stashed in their houses rather than invest it.

Prices and wages dropped, though not together with each other, which contributed to people being out of work and not having enough money to satisfy basic needs. People with mortgages were still expected to make their fixed monthly mortgage payment with less monthly income, which led to widespread defaults and then more bank failures.

Inflation Can Ruin Individuals

Inflation happens when the monetary supply grows at a faster pace than the supply of goods in the market, which leads to price increases. During the 1970s, many Americans saw the purchasing power of their life savings shrink thanks to out of control inflation that was eventually reigned in with high-interest rates. This process began when President Nixon took the United States off the gold standard, which meant the supply of money was no longer restricted to a physical item.

Inflation is a silent tax: everyone knows it’s there, but not many people feel threatened by it because it seems like it’s under control.

Maintaining inflation at a rate of two percent is the official policy of the Federal Reserve. On paper, this seems like a small amount, but two percent every year adds up, and it lowers the value of money sitting in individual bank accounts because bank interest has been a lot less than two percent for quite a few years now.

Inflation is also called the silent tax. Everyone knows it’s there, but not many people feel threatened by it because it seems like it’s under control. Governments like a little inflation because it helps reduce the actual value of the debt they owe; all they need to do is fire up the printing press. But inflation is dangerous to individuals because it has the power to erode retirement savings along with the savings that younger people make for future down payments on assets like houses.

Inflation’s Effects Are Not Equal

Inflation can be harmful when wage increases lag behind housing and food increases. It can be harmful when your only asset is the money in your savings account. It can be helpful if you own stocks and their value increases. It’s helpful when you increase the rent on property you own, and it’s even helpful to the middle-class homeowner who sells their home for more than they paid for it. It can also be harmful because it creates the illusion that asset prices always increase, which in turn causes bubbles.

If you have assets, you’re not as vulnerable to inflation as others because your wealth has transferred from money to a physical object that can hold its value. But if your only source of wealth is cash, and it loses value every year, you become poorer.

Wealth Inequality’s Relationship with Inflation

There are many studies that claim wages have not kept up with inflation and that this has contributed to growing wealth inequality. While this is true for some industries and occupations, a lot of people are blaming the people paying the wages for this instead of blaming inflation itself. Many academics and commentators point the finger at technological innovations, loss of union power, and globalism while they ignore how inflation spiked after the gold standard officially ended.

It’s hard to build a nest egg when the value of that egg gets lower and lower each year.

Getting out of Debt

The $22 trillion national debt is one of the biggest threats to the future of American prosperity. To put into perspective how serious it is, according to the Federal Reserve, there is only $1.7 trillion of US currency circulating in the world. GDP for 2017 was $19.4 trillion. The value of the entire US economy is approximately $120 trillion. If 15 percent of the assets in the United States disappeared overnight to pay off the debt, it would create a new economic disaster.

There are only three ways to reverse this trend: Cut spending drastically, raise taxes, and print money out of thin air to pay this down (inflation). Printing more money to get out of debt is not a revolutionary idea, though Paul Krugman would like you to think otherwise.  Politicians avoid the first two solutions because they fear it would be unpopular and get them voted out of office (although that seems to be changing on the Democratic side). But inflation is the silent tax that most people hardly think about.

Printing more money to get out of debt is not a revolutionary idea, though Paul Krugman would like you to think otherwise. It has been done before, and devastating results have often followed. In Germany after World War I, inflation spiraled out of control as the government printed more money to pay its war debt, and the country entered a process called hyperinflation. By 1920, prices on average were 12 times higher than they were before the war. Many people, who were not rich with assets, were economically ruined, and this policy would help lead to the rise of the Nazis and World War II.

The First Step to Solving a Problem Is to Admit It Exists

If inflation contributes to the poor getting poorer, and inflation is caused in part by the government as a way to decrease their out-of-control debt, then programs that add additional debt to the debt will hurt the poor. Three-quarters of US debt has accrued over the past 20 years. Serious reforms need to be applied to government spending, and the budget needs to be completely overhauled so that surpluses are happening instead of deficits.

Politicians have a well-earned stereotype for being dishonest. While there are some people in the field who do believe in civic duty and serving their country’s best interests, they are greatly outnumbered by a permanent political/government class whose primary interest is to increase their own power. They will say and promise many things in order to secure votes.

But history shows that those who propose new massive government programs—in addition to the already existing ones we can’t afford—in the name of “fighting inequality” are deeply misguided. Bad policies lead to bad results regardless of the intentions behind them.

  • Daniel Kowalski is an American businessman with interests in the USA and developing markets of Africa.