Looked at properly, inflation is the money getting less valuable, which shows up as rising prices. It’s opposite, deflation, is the money getting more valuable, leading to falling prices. Something that used to be very obvious, but has perhaps become less so, is that inflation sucks if you have money, whereas deflation sucks if you owe money.

TL;DR version: You can reverse inflation, as long as you’re willing to grind into the dust everyone who owes money, making them work more and more, to earn less and less, to pay back debts that get higher and higher (because the dollars it takes to pay them off are getting more and more valuable). Society has done that many times in the past. Sometimes it works out okay; other times it produces terrible impoverishment of ordinary people, leading to social unrest.

The rest of this post looks at this in a bit more detail. I was prompted to write it because recent polls have suggested that young folks—Millennials and Gen-Z—continue to be unhappy about inflation, even though the inflation rate is down a lot. When you talk to these people, it turns out what they’re unhappy about is not inflation but rather prices: They remember what things used to cost, and they cost more than that now, which they find annoying, even if the price has largely quit going up. (And of course prices change all the time, so some prices are always going up.)

Older folk—people who lived through the inflation of the late 1970s and early 1980s—have a different perspective on that, partially because their parents and grandparents lived through the Great Depression.

Basically, they remember what happens when you try to push prices back down to what they were before a period of inflation.

There’s a sense among the “hard money” types that inflation is impossible when the currency is backed by gold, but this is false. There is often inflation under a gold standard, but it (often) ended up getting undone, meaning that looked at from the perspective of a century, it looks like there wasn’t much inflation. And indeed there wasn’t much inflation on average.

This was especially true during the heyday of the gold standard, roughly the 18th and 19th centuries. In 1816 the pound sterling was defined as 113 grains of pure gold, where it remained until 1931. (Before that it was defined as 5,400 grains of silver—about a pound of silver, hence the name a pound sterling—but in terms of value it was a similar amount of purchasing power.)

A big part of the reason that people remember the gold standard fondly is that it worked pretty well, especially for people who had money. With stable prices, it was even possible to value land not at a market price (because who would sell land?) but at the income that land would produce—an income that would remain stable for generations at a time.

However, as I said, there was still inflation. Inflation came from many sources, but two important ones: new discoveries of gold, and war. When the quantity of gold increased—as during the 1840s and 1850s when large amounts of gold were found in California and Australia—the rising quantity of gold (i.e. money) would produce inflation just like rising quantities of money produce inflation now. The other common source of inflation was war, because paying for a big war without inflation is almost impossible.

For example, there was a big inflation in the U.S. during the Civil War, when the Federal Government printed “greenbacks” to pay for the costs of the war. (The Confederates did the same, but as they lost the war their Confederate dollars ended up being worthless.) Dollars, on the other hand, were gradually revalued, with greenbacks gradually being withdrawn from circulation producing a grinding deflation that went on for more than a decade.

Like always in economics, there were other things going on at the same time. Industrialization was going on at the same time, meaning that things produced by industrial firms were getting cheaper, leading to deflation, while gold discoveries were leading to an increase in the supply of gold (= money) leading to inflation.

On balance there was deflation, meaning that people who had money were getting richer, while people who owed money were getting poorer. As long as that happens only in a small way, and as long as people sense that it’s “fair”—that nobody is cheating the system to take unfair advantage—it’s kinda nice. If you don’t owe money (and most people didn’t, because there were no credit cards, and virtually no student loans), then whatever meager savings you had got gradually more and more valuable. At the same time, wages tended not to drop (for the same reasons that wages tend not to drop these days as well), so somebody with a job ended up gradually better and better off.

Of course rich people got vastly more well off, so they loved it. The main people who hated it were farmers and small businessmen, because they generally needed to borrow money (to buy seed or raw materials), so they were constantly screwed by the fact that the money they had to pay back was worth more than the money they’d borrowed.

I started this post meaning to suggest that “kids these days” just didn’t understand the dynamics of deflation, But upon reflection, I think there’s another layer to it. Kids these days (as opposed to the Gen-X kids who trusted their parents and guidance counselors, and borrowed as much money as necessary to go to the best school they could get into) don’t owe so much money, so they’re not in the position of being utterly screwed by deflation. Many of them may be in the position of ordinary people in the great post-Civil War deflation, who ended up doing pretty well, with their wages or salary rising in value, while industrialization and globalization helps hold down prices.

The fact is, though, that deflation can absolutely destroy a generation of ordinary people. After WW I, for example, Britain, having funded the war through inflation, decided to return to the pre-war gold parity, which required a grinding deflation that lasted until 1929—great for people with money, bad for people without, devastating for people with debts. France decided instead to revalue, punishing people with money, coddling people with debts (which has its own downsides in terms of social disruption). German, the loser of WW I, saddled with debts denominated in gold, made a valiant effort to pay them back, giving up and starting WW II only when that proved utterly impossible.

The lesson of that period, understood by pretty much everybody from the 1940s through the 2000s, was that the best thing to do after a period of inflation was to bring the inflation rate back down near zero, but accept the price increases that had already happened. (If the inflation rate is brought back down to, let’s say, 2%, prices will be generally stable. The slight remaining inflation will be barely noticeable, hidden amidst the ordinary rise and fall of prices due to changes in fashions, technological improvements in the means of production, depletion of resources, etc.)

It’s very interesting to see young folks returning to the instincts of the 18th and 19th century, thinking the prices should go back to what they were before the inflation. It goes very much against what I learned as an economics student, but who can say that what I learned was right and that their instincts are wrong?

Seems like a situation of “time will tell.”


During the debt ceiling crisis back in 2011, I suggested that it would be no big deal if the government just “prioritized” spending so as to match revenues for however long it took Congress to get its act together and raise the debt ceiling. I got some push back on this by people who said I was crazy if I thought that much spending would suffice, but I never thought it would suffice—I was just sure that the result would be so onerous that Congress would knuckle under in no time. I figured that was what the Treasury secretly had in mind.

I’ve changed my mind.

It would have gone like this: The laws are contradictory—Congress sets the tax rates, Congress sets the spending levels, Congress sets the debt ceiling. The poor Treasury, simply doing the best it could in a no-win situation, would hold up pretty much all payments except interest on the debt, judges pay, soldiers pay, and social security. Once payments to major corporations in districts where recalcitrant Congressmen lived got held up, the stalemate would have ended pretty quickly.

I no longer think that’s what’s going to happen. Basically, I’ve come around the view that the Treasury meant what it said when it claimed that its hand were tied: It is legally required to spend the money the Congress has appropriated, whether the money is raised or not.

And I think there’s a solution.

Really, it’s the same solution as the “platinum coin” solution or the “issue scrip” solution, but those solutions are just gimmicks to put a pseudo-legalistic shine on what basically amounts to paying our bills by printing money.

I don’t think there’s any need for the gimmick. I think what the Treasury means to do once the headroom for keeping under the debt ceiling runs out is: Nothing. They’ll just go on writing checks exactly as they’ve been doing.

They’ll stop issuing new debt of course, so there’ll be no new money in their account at the Federal Reserve to pay the checks.

At which point, I’m reasonably sure, the Federal Reserve will just pay the checks anyway—which the Fed can easily do by just crediting the depositing bank’s account. (In other words, printing the money.)

Basically, the Fed would let the Treasury run an unlimited overdraft.

This works on several levels.

First of all, it doesn’t require any reprogramming or rejiggering of the Treasury’s numerous systems for making all the many payments they make every day. (No entity makes more payments than the US Treasury.) That’s good, because any attempt to do so would be problematic at best, and probably catastrophic in the short term.

Second, the people who are being most recalcitrant about raising the debt ceiling are the ones who would be most outraged. (I can just see them frothing at the mouth. Oh noes! Inflation!!1!)

Third, under the current circumstances, it would probably be good for the economy. I’ve pretty much come around to Paul Krugman’s analysis that at the zero bound there is no inflation risk to printing money. Even better, if it did produce some inflation, that might get us up off the zero bound. (I for one would be very pleased to be able to earn a return on my capital.)

A generation ago the Fed would have hated this—bankers used to hate overdrafts in the deepest depths of their bowels. But overdrafts have been so profitable for banks these past 20 years or so, I expect we have a whole generation of bankers who have gotten over it.

As to whether it’s really legal or not, that’s something for the courts to decide. The debt ceiling applies to debt “subject to the limit.” The Fed and the Treasury will just say that, while an overdraft is debt, it’s not debt “subject to the limit.” The debt ceiling will be resolved long before any court case plays out.

The Treasury never admitted to having any contingency plans last time. Their take on it was that not raising the debt ceiling was unthinkable, therefore they would not think about it. But this is the only thing I can think of that could actually play out without chaos. If they weren’t planning on doing this (or something much like it), they’d have done something by now (such as having a dry run of their scheme for prioritizing payments).

Last time, I figured we’d get an 11th hour deal. This time, I think it’s pretty likely that the debt ceiling won’t get raised, and I think the Treasury will actually end up doing this—so I thought I’d share my thinking in case people find it useful.

In 2008 I posted Ron’s paper on Peak Debt. He recently extended his work, in a new paper called Peak Debt and Income.

Once again, I’ve got a piece up at Wise Bread that provides an overview of paper:

Laszewski creates a simple model of the economy as a tool for investigating the question of how to get household balance sheets back in order after suffering the problems diagnosed in the earlier Peak Debt paper…

Really, though, you ought to read the paper. (The math in this one isn’t as tricky as the math in the original Peak Debt paper.)