Monday, October 03, 2011

Our Monetary Mayhem Began With the Fed

Our Monetary Mayhem Began With the Fed; The New American

Nearly all Americans know they are plagued by inflation. In 1962, a postage stamp cost four cents, a candy bar a nickel, a movie ticket 50 cents, and a pair of tennis shoes $5. A new imported Renault automobile cost $1,395, annual tuition at Harvard was $1,520, and the average cost of a new house $12,500. Over the last century, a dollar's purchasing power has declined over 95 percent — i.e., it won't buy what a nickel did in 1909. What causes inflation? The public hears various explanations from the establishment media — that oil's rising cost causes inflation, since nearly all industry sectors use it; or that inflation is the fault of American workers demanding wage increases, which has a ripple effect throughout the economy. In other words, Joe tells his employer, "Boss, my wife's expecting. How about a raise?" The boss says, "Joe, the only way I can afford that is by raising our prices — I'll have to pass the cost on to our customers." Then firms doing business with Joe's company say, "Since you've raised your prices, we'll have to raise ours." And so, all across America, prices rise because "greedy" Joe, and millions like him, asked for a raise.

Furthermore, the public has been lulled into believing that inflation is inevitable, like "death and taxes." Indeed, based on the Consumer Price Index (CPI), the broad index used to measure the price of goods and services, that seems true. America has experienced general price increases every year since 1955, without exception.

But as we can easily prove, inflation is not inevitable. Figure 1 depicts American price levels from 1665 to the present. Note there was no significant increase for the first 250 years. Little blips upward are on the graph, as during the American Revolution, War of 1812, and Civil War, when the United States issued large quantities of paper money to pay for those conflicts. Of course, increasing the supply of money (which is what inflation really is) diminishes its value, causing prices to rise. But notice that, after the wars, money always returned to its normal value. A dollar in 1900 was worth the same as in 1775; there had been no net increase in the cost of living since George Washington's day. Throughout this time, Americans asked for, and received, wage increases, without causing prices to rise overall.

Figure 1 Inflation GraphBut look at the graph's right side. During World War I, our currency inflated, but instead of resuming its normal value afterwards, it continued inflating out of sight. American money, relatively stable for 250 years, began to rapidly and permanently lose its value. This did not happen by chance; every effect has a cause. Around the time of World War I, something significant must have happened to induce this transformation. As we shall see, the cause of this transformation has nothing to do with Joe and others who, suffering from the effects of inflation, asked for a raise.

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