The Fed and Neo-Fisherism


I am not an economist.

That won’t come as a surprise to any economist who happens to come across this blog but I felt it needed stating.

The thing is, this site represents my personal exploration of a topic that greatly interests me. In my opinion, economics is the single most relevant topic in today’s world. Economics is what knits the world together, for better or worse. This blog is where I come to kick around my thoughts and ideas on it from a non-expert’s perspective.

Regular readers may notice that my method is pretty philosophical. I kind of take the “Austrian” approach when it comes to grappling the topic; rather than using hardcore calculus and sophisticated modeling, I try to reason out logical suppositions based on what I understand of the core principles.

This approach lead me to write The Currency Paradox, an essay that presents a basic set of ideas, including a major economic innovation, that I think is only getting stronger as time passes. Almost all of what is presented in the essay has been confirmed and the strength of the core innovation is even more significant in the face of Capitalist solutions which attempt to achieve the same end, such as Universal Basic Income (UBI). The innovation in The Currency Paradox is proving to be incredibly resilient. Indeed, it has only ever been challenged ideologically. So far, no one has attempted to assail its fundamental viability. Not to say that it can’t be substantially challenged but I take it as somewhat of a personal victory that no one has mounted a serious one yet.

But on the other hand, sometimes I’ve written things that have been, to put it mildly, “counterintuitive.” The following three come to mind:

The Flaw of Marginal Cost: in this post, I use the example of the pricing of water to expose a natural distortion that occurs when some things are priced relatively close to their marginal cost. The effect is often overconsumption without regard for conservation;

The Concept of Marginal Utility is Overrated: in this post, I question the conceptual value of marginal utility and show that, at best, it is tricky to productively apply it to gain greater economic understanding and, at worst, it is little better than a common sensical concept that distorts economic understanding;

A Marginal Cost Redux: In this post, I revisit the concept of marginal cost and show that it has almost no value conceptually to consumers and is therefore pretty much moot. Some may think that is an irrelevant point but I think there is something particularly telling about an economic concept that has almost no direct relevance to consumers. In my opinion, it’s a concept that provides more comfort than understanding.

You know how the saying goes… “if you want to make an omelet, you’ve got to break a few eggs.” On this blog, I’ve probably broken more than my share plus taken out a few chickens and one or two sacred cows. As tough as it is, to gain true understanding means risking getting some things spectacularly wrong.

One of these spectacularly wrong moments involves this sentence from my last post, The Deflation Phenomenon:

“So what’s happening? My guess is that central banks can’t raise rates high enough to quickly kill competition at the top to force consolidations. Come to think of it, let me rephrase that: central banks are scared to create runaway price inflation by increasing interest rates too high, too quickly.”


To call this statement “counterintuitive” would be an understatement. The common wisdom is that lowering interest rates too much can increase inflation by quickly and significantly increasing lending and thus the money supply, causing aggregate demand to outrace productive supply. So why do I think the folks at the U.S. Federal Reserve think increasing interest rates will spur higher inflation rather than the opposite?

Many people who follow economics think the people running the Fed are morons but I’m not one of them. That isn’t to say that I think they are infallible. I just find it hard to believe that the people who manage the most important economy ever don’t have some sense of the issues they are facing. The current atmosphere of disinflation/deflation suggests that productive supply is outracing aggregate demand. With interest rates in the zero range, economies are flush with cheap money but almost none of it is finding its way into the pockets of average consumers.

The problem is that most of what we know regarding deflation we learned when our money was tied to a deflationary anchor… gold. In hindsight, it makes perfect sense that the technological advancements that facilitated a population explosion would also stress a financial system backed by a deflationary money to the breaking point. It makes perfect sense to think that the technological boom of the early 20th century rendered the gold standard obsolete. In that regard, fiat currencies were the natural evolution of a worldwide civilization that had reached its tipping point. A world growing at an exponential rate needed a currency system that could keep up.

However, now we have entered into a deflationary cycle even though such a state should be impossible given the ability for the banking system to create, for all intents and purposes, unlimited money. Strangely enough, the current deflation is likely being caused by an abundance of money, rather than a scarcity.

Right now, we live in a time in which growth for many of the world’s countries is historically low. Economist Lawrence Summers has coined the term “secular stagnation” to explain the malaise, a condition that sees many countries unable to spur significant growth even using unorthodox methods, such as highly-controversial “quantitative easing” (QE). Normally, central banks could lower their short-term interest rates to spur lending; the lending should, in turn, translate to greater economic activity that creates growth.

However, what happens when interest rates are already pretty much at zero? If lending doesn’t increase substantially under those conditions, what can you do? And, if banks are indeed lending under those conditions and growth hasn’t improved, what would more lending produce? Interest rates at the Zero Lower Bound makes borrowing ridiculously cheap and should produce a “cash flush” environment; in other words, there should be more than enough money to spur investment and productive growth.

But I think we are now facing a unique problem: there is so much cheap money in the economy, it has skewed the competitive landscape as it regards productive supply. In other words, cheap money is allowing more competitors to enter markets and stay solvent much longer. I think this is particularly a problem when it comes to commodities. My speculation (and not truly an original one) is that cheap money is allowing “zombie” companies to persist in productive supply.

Assuming that’s correct, then the smart move would be to increase the cost of borrowing money so that market forces can start to weed out the chaff and decrease competition. The counterintuitive move of increasing interest rates to increase inflation has been dubbed “Neo-Fisherism,” a nod to the economist Irving Fisher.

The problem with this course of action though is that growth worldwide is already pretty anemic and price deflation has tangible benefits under the current conditions, particularly to consumers who have experienced little wage growth over the last few decades. There is a real risk that price inflation could further slow growth and lead to recession. Based on my observations, it looks like the Fed wants to turn up the heat very slowly to prevent a chain reaction that spikes inflation and causes a severe global slowdown.

Then again, to reiterate, I’m not an economist. I just kick around economic ideas on this blog. Take it with a pound of salt.


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