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Stagflation Redux
There's a final reason even a mild case of stagflation can prove fatal: leverage. Stagflation implies a rise in fixed costs and inputs (food, energy, the price of money itself) coupled with slowing growth in sales and revenues. This dynamic of a rising bottom line and a stagnant top line shrinks profit margins. If you have a lot of debt, and if a lot of that debt is floating-rate or short-term debt, that combination is horrible. If your entire business model consists of borrowing huge sums of floating-rate or short-term debt and using it to buy other assets or debt instruments that tend to decline in value when inflation rises and growth stalls, then it's a killer. Unfortunately, that's exactly what the financial services sector and the American homeowner have been doing for the last several years.
© 2008
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Member Comments
Posted By: tc125231 @ 04/04/2008 6:59:52 PM
Comment: This post assumes a level of knowledge on the part of the poser not justified by his comments.
The last case of stagflation --like this one --followed a war financed with IOUs.
zBy the way, I have had way more economics than Reagan. So has Krugman.
Posted By: tc125231 @ 04/04/2008 6:57:57 PM
Comment: Absolutely correct analysis. The last case of stagflationfollowed the Vietnam War, also unpopular, also paid for with defecits --e.g. IOUs.
Notice that Mr. Samuelson --whose "primer" is referred to in this article --insisted in repeated colums --never recanted --that paying for this war was "no problem".
Pathetic.
Posted By: Jeff_F_F @ 03/07/2008 9:07:30 PM
Comment: I wish it were that simple. Unfortunately everyone sleeps through economics, so it is easy to miss this. Here is a review.
Raising intrest rates is an extremely effective way to correct normal inflation. It reduces the amount of money available to purchase goods and services, thereby reducing demand, in turn lower price. However the reduced demand slows the economy. Normally this is fine because high inflation normally coincides with too fast of economic growth. Since demand can increase as fast as people want to buy while supply increases only as fast as new service businesses can be started, new production lines can go into operation, etc demand outstrips supply and inflation results.
That is why stagflation is called stagflation, because it is different. Stagflation presents a catch 22. The normal demand side economic measures don't work. Increasing intrest rates will make the inflation part better, but it will make the stagnation part worse. Reducing intrest rates will make the stagnation part better but make the inflation part worse, and tax rebates will have the exact same effect.
People forget that Reagan was the only president in history to have a degree in economics. That's why he implemented the only fix that will actually work on stagflation. When the economy is being slowed by increasing prices of goods and services rather than too much demand, the only way to fix it is to bring down the cost of producing goods and services.
It is the economic policy most reviled by both the left and the right, but it is the only way. Corporate welfare!