Supply and demand are always interchangeable when it comes to prices. We might compare supply (real GDP) to trend, and find it's been low, and conclude there's a supply and not a demand problem.[1] But the Fed is a bank and can't do much about supply.

Another question is whether inflation is actually high. There was a sharp change in the CPI last June.[2] Measuring from February 2022 still gives 6.0% but measuring from June gives 3.5%/year. There's also the question of inflation stability (2nd derivative of prices), and things have been pretty smooth since June.

So should the Fed crash the economy to try to bring stable 3.5% inflation down to 2%? Probably not. But the bigger question is: What can we do to increase supply?

[1] 1.7%/year 2022Q4/2019Q4 versus 2.6%/year 2019Q4/2016Q4 or 4.7%/year 1999Q4/1996Q4 etc.

[2] https://fred.stlouisfed.org/series/CPIAUCSL

You state that supply and demand are interchangeable they are not, a classic example would be the elasticity of a specific demand or market.

Then you say that the fed cannot do anything about the supply which isn’t correct at least if you are talking about the supply of money increasing the interest rates can reduce the supply of money within a given economy.

A price change by can be caused by changes in supply, demand, or both. Additional information is needed to determine which. In the present situation it seems demand is 'normal' but supply is constrained.

In the real world - both can happen simultaneously.

When interest rates rise, not only does higher cost of borrowing discourage investments and spending (an attempt to kill demand to bring down prices) it also reduces the money supply of the economy.

The money supply refers to all the liquid assets and cash that are in circulation in a country's economy. It is important because it is closely related to the credit market.

But money supply works in conjunction with market risk - which often branches out to two functions - liquidity preference and risk premium. The former is a theory that suggests that an investor might prefer 6% over 10 years than 3% over 5 years. The latter suggests that one investor might pick the 3% (lower yield) option because it has better risk premium - say the 6% is a bond in a DVD store, and the 3% is a government bond (example).

What we're witnessing now is the spiralling, second order effects of rising rates - which on the one hand attempt to kill demand and curb prices for consumer goods, but on the other, affect the money supply and force investors to rebalance their portfolio and start evaluating different risk premiums.

The Fed has dug itself into a hole because monetary policy changes have massive spillover effects into other areas of the economy, not just inflation and cost of borrowing, but also things like how participants in the economy view liquidity and risk premiums.

Can't A/B test monetary policy, or life. Institutions, like people, will learn to face the consequences of their actions and learn to live with their choices.

The long answer is that today's inflation doesn't seem to be monetary in cause, because nearly every country is experiencing inflation simultaneously. If the Fed had printed too much money and that was why the US was inflated, that dynamic shouldn't really affect, say, Germany, or Brazil. (Caveats abound, of course). Despite that, we're seeing nearly every major country have similar and sustained rates of inflation across monetary policy regimes.

So, we know there's been something that affected everyone globally, and that's obviously supply chain disruptions along with gas and oil price changes due to Ukraine. Fed policy didn't cause the inflation, something bigger than the Fed did.

The question then is can the Fed fix it. The answer here is maybe. The Fed has tools to fix inflation - when the inflation is caused by monetary policy reasons - and those tools should, all else held equal, reduce inflation eventually.

The real question is whether or not the Fed is the best entity suited to tackling today's inflation. Politically, it's very easy to just delegate all that stuff to the Fed so that it becomes some technocratic thing that's essentially beyond the scope of normal politics. This is what Reagan did in the early 80s. But in terms of actually fixing the underlying problems, I don't know how much impact the Fed can have.

Raising rates won't make supply chains readjust to today's geopolitical environment, or hire more truckers to move long-stored inventory. It will fix the monetary part of the inflation, but to get back to your question, nobody really knows what the monetary part is. It's less than we'd normally think, but we don't know precisely.

Every country printed money during Covid.

A globalised supply chain was disrupted by covid and that exposed some pretty gnarly non-linearities in how pricing happens. Combined with an explosion in shipping prices that actually pre-cluded low inflation areas from exporting their disinflation to high inflation e.g. I've linked elsewhere charts on shipping costs. Have a look at a USDJPY chart and wonder why the US wasn't loading up on cheap Japanese goods..

There are also demand factors as well, but most of what we are seeing is monetary in origin, raising interest rate is also somewhat "demand" driven, in that the big trigger there was the market for buying MBS (packages of loans mostly made by banks and S&L) market froze and then spiked up significantly.

This is a pretty exhaustive text on why this is the case, I found it quite convincing:

    "The inflation economy" https://graymirror.substack.com/p/the-inflation-economy

    "The golden age of informal securities" https://graymirror.substack.com/p/the-golden-age-of-informal-securities

    "Bitvana or the bitcaust" https://graymirror.substack.com/p/bitvana-or-the-bitcaust

For hyperbole, houses would never sell for millions of dollars, if only 2 dollars existed in the worldwide economy, not even if the housing shortage was so bad that there only was 1 house available in the entire world. People may try as they might, but they'd never get more than the total money in existence (2 dollars). Ergo it's entirely possible to make a money shortage worse than any "supply" shortage and force prices down. The Fed controls interest rates, and how many dollars exist, so they do have quite a bit of influence over the situation.

So, yes the Fed does have power to tame the current bout of inflation, but it takes time, and it is blunt. That said, there is a ceiling to how much money they can suck out of the economy, as they have little power to destroy dollars physically hoarded by people with no debt, or lost in a roadside ditch somewhere. But this doesn't matter much, as that money in practice, is out of the economy for the time being, as if it doesn't exist anyhow.

Putting the subject of inflation aside for the moment, the first cause is the destruction of capital. Capital destruction, which broadly speaking includes our ability to transport goods, has curbed the economy's productive capacity. We produce less, and so what we are able to produce becomes more dear. This is the supply issue, but it's not inflation.

The second cause is inflation. The definition of inflation I'm using is the increase in the money supply. Until very recently, this is what the Fed (and other central banks) have been doing. More money chasing the same amount of goods—all else being equal—causes a rise in prices. This is the demand issue.

I realize that this understanding and use of the term inflation isn't mainstream. But I think it makes it easier to understand what is going on.

Some price hikes on products and services just don't seem to have any economic rationale behind them.

And not all of them are quite obvious because you may get a full product or service with a reasonable price increase that follows inflation but of lot less value.

Take for example hospitality (hotels and restaurants) and home services (roofing, plumbing, landscaping)

My theory is with the pandemic many businesses realized they can reduce quality and level of service without impacting profits.

It's pretty normal today to pay $200/night for a hotel and not get room service for 4 days or more, or go to a restaurant and get a mediocre food and service and still be automatically charged 20-25% on the final bill, in some places even after tax!

My hope is we will reach a point of BS that businesses will start competing again for quality and service and gradually bring things to pre pandemic levels, but that may take a decade or more.

Meanwhile I am cooking a lot more at home, traveling to places where I can hike and camp and do a lot of small projects at home myself.

To paraphrase the last psychatrist (Miss you!), if you go there it's for you.

PS. Don't roast me, I'm not defending the practice, just the definition of economic rationality.

https://www.freightos.com/freight-resources/coronavirus-upda...

I've seen so much discussion and threads being overly reductive about inflation, essentially the end prices of goods are a function of their inputs and the competition for those goods. It's important to understand that you have many non-linear effects overlapping to create the final goods price. For example, chip shortages meant inspite thousands of physical cars being finished, they couldn't be shipped for lacking a few components. There's nothing more money can do about that. But cars are essential, so the price of used cars exploded in response.

This is just one example of hundreds of different, overlapping issues that coronavirus brought to the supply side picture. At this point in the picture, much of the service side of the economy was physically shut e.g. you couldn't go to bars. Revenge travel, eating out etc. created a crowding out effect and drove prices higher there when they did open.

The billion dollar question is whether or not we continue to see this crowding / revenge effect or in fact people just have more money than you think and are simply spending it. There's mountains of data on both sides of this debate, if you look at consumer credit it seems to be increasing (people can't afford?), but savings rates also remain stubbornly high (but have money?). In spite of price increases, consumer demand remains very high (look at retail sales) and employment makes new record highs and JOLTS continues to be through the roof.

It's not a simple puzzle as many people seem to suggest.

https://news.ycombinator.com/item?id=35263238

Logistics got screwed up, I agree. And the increase in the costs of transportation impacts everyone else's calculations and ability to produce. Your chips and cars example is excellent, by the way.

But, as your question points out, I'm not really talking about destruction so much as I am about capital lying fallow for an extended period, and the chain of production—which endeavors to work as a well-oiled machine—being disrupted. My central point is that our ability to produce was greatly curtailed, resulting in less goods and services available.

Finally, I'm not quite sure what you mean by "who" and "why." I'm not pushing some kind of conspiracy theory. I'm just making observations of what has happened.

I didn't think you were referring to a conspiracy. I just didn't know what you meant, since if you have capital, it's not really rational to destroy it

I was horrified when things got shut down. Even when I originally bought into "two weeks to slow the spread" and believed it was only going to be for two weeks, I was concerned that a global, advanced division-of-labor economy cannot be switched on and off like a lightbulb.

Capital destruction doesn't have to be intentional. Hurricanes, fires, floods, wars, and pandemics can destroy capital. A bunch of chickens being killed due to bird flu is an example of capital destruction. Your house being destroyed due to a flood is capital destruction. Bananas rotting in a warehouse because the truck driver decided to take a vacation day is capital destruction.

Of course, arson and war can also destroy capital, and those are intentional. Policy can also destroy capital; e.g., a tariff that decreases international trade reduces the value of shipping containers; that destroys capital even if the shipping containers still get used (at a lower rate).

Rant:

No one cares about pushing around definitions of words; what they want to know is why they have to pay more for stuff! For this reason, the Austrian definition of inflation is kind of idiotic and imo often used in bad faith.

Why? Because most people understand inflation to mean "things are getting more expensive". That's the normal definition not only in mainstream economics but also in the lay vernacular.

So then an Austrian tells you that "inflation is monetary" and you infer that "the reason for increasing prices must be money printing". But that's an errant deduction! The Austrian is simply axiomatically defining a term in a non-standard way. In particular: the "inflation is monetary" is literally just choosing a weird way to define inflation, NOT making an actual empirical claim about the reason that e.g. egg prices have increased!

If you accept the definitional slight of hand and don't realize the silly game of axioms you've been recruited into, then you conclude that money printing is always the reason for increasing prices, even though not even the most staunch Austrian has the balls to make such a wildly broad claim ("oh, no, those prices increased because of capital destruction, not inflation!").

So far we just have a silly confusion. The pernicious thing is that the conclusions that you draw due to this stupid definitional game happen to support the often entirely self-interested policy preferences of (usually wealthy, and in a particular way) Austrians.

To your parent post's credit, they explain what they mean when they say that inflation is monetary; ie, that you cannot conclude from their assertion that inflation is the reason that prices are increasing. But generally I find the game that gets played with the definition of inflation (it's always monetary!!1!) extremely aggravating, since literally everyone else in the conversation understands that inflation means a general increase in prices. It's the same sort of pernicious definition game that people play when they say that that US is a republic and not a democracy.

And, in fact, you'll find that most Austrians themselves don't even understand that "inflation is monetary" is just a definitional choice, not an actual empirical claim about why prices increase. Or, when they do, they will freely move between the two definitions in a way that is -- even if not in bad faith -- an actively misleading use of rhetoric.

I recommend Manoj Pradhan & Charles Goodhart’s, “The Great Demographic Reversal” (2019) for more on the topic.

Covid occurring since then has exacerbated the international debt issues, as well as plucked more of the valuable remaining years away from our labor force’s working years. See the number of early retirements that occurred during the pandemic.

That we’re also seeing a hot war, a trade war, and the ripples of a goosed economic system during covid at the same time? Can’t make it up.

Edit: I wouldn’t hold my breath waiting for the fed to resolve this, they’d have to crush assets to oblivion to keep pricing of labor the same as it dries up due to retirements.

AI on the other hand has a lot of potential to bail us out here

The main catalyst, and by that I mean essentially the only catalyst, is monetary policy.

https://www.reuters.com/business/retail-consumer/carrefour-p....

I imagine its like this all over which each part of the logistical chain opportunistically cashing in using the excuse of inflation.

SF Fed breaks out the PCE index by supply and demand:

https://www.frbsf.org/economic-research/indicators-data/supp...

On the other hand I don't know squat about monetary policy, so I'm probably confused.

I think one could argue they exacerbate inflation - rising prices can trigger more price increases, but in the end its money supply that drives an erosion of the value of currency.

Oil peaked at $108/bbl during Covid, and that's not inflation adjust. You can't tell me that when oil prices doubled in in 2008 and no inflation happened, that oil prices drove inflation now when it went up far less.

Like I said, supply constraints can drive inflation when there is excess money supply. But without excess money supple, the inflation impact of supply constraints is muted because, well, there isn't the money to feed demand - consumption just drops.

In Europe inflation was driven by oil prices in the 70s because industry production was based on oil energy.

Europe switched to natural gas for industrial production.

Because natural gas costs were driven by long term contracts, not the spot market, it did not increas in 2008.

When because of the invasion natural gas costs spiked, despite long term contracts with Russia because companies needed to get out of them and buy natural gas on the market, inflation spiked.

This problem needs to be addressed by policy makers in the form of tax increases (primarily on corporations).

Tax increases are unpopular and so they only tend to happen when shit really hits the fan. And policy makers always wait for shit to hit the fan before doing what's necessary.

I don't really understand this view (and certainly wouldn't attribute this sort of intent to the Fed). What did the Fed do? What should they have done?

To your question: what it comes down to is that the fed is charged with managing inflation and unemployment. Regardless of the effectiveness of their tools, they are required to do what they are able to do. With that in mind, it’s possible that there is a better course of action.

Personally I find the arguments of MMT to be strong. This forum has charactered the theory as an excuse for profligate spending, however, the actual proponents simply state that budget deficit are ok so long as inflation is under control. Therefore, the theory would posit that the actual resolution to this would be to shrink the deficit spend in order to properly tame inflation.

Take that for what you will.

If our governments ever ran true Keynesianism, they didn't do it for long before they started spending more when Keynesianism said they should spend more and spending more when Keynesianism said they should spend less, and whatever the academic merits of MMT it has in practice simply removed whatever faint limits the old theories imposed on our politicians because it has been translated to them as "MMT says the government can spend whatever it likes forever, especially if it has the reserve currency, and nothing bad is even possible, let alone going to happen".

In a sane world economists would recognize that explaining new theories to politicians is just handing a lit match to a toddler, but, well, you live in the world you live in, you know, not the world you wish you lived in.

Politicians spend because it’s popular, they cut taxes because it’s popular. In reality they don’t need a theory to justify their behavior. The budget deficit has been ballooning for decades before MMT even became a faint part of the public consciousness.

It’s ridiculous to assert that academics are somehow responsible for the behavior of politicians. What matter is that they develop theories that are correct and true.

Though I would submit that they do have some pretty significant impacts in a couple of particular places, at the Treasury and the Fed. In Congress, of course, it's probably all but irrelevant except as which fig leaf some more sophisticated ones may reach for.

>Personally I find the arguments of MMT to be strong. This forum has charactered the theory as an excuse for profligate spending, however, the actual proponents simply state that budget deficit are ok so long as inflation is under control. Therefore, the theory would posit that the actual resolution to this would be to shrink the deficit spend in order to properly tame inflation.

My problem with MMT is the same problem I have with all political economic schemes in the US ... it goes to those that already have it. We already know one thing that does seem to work in a lot of places -- if you have a prosperous middle class, your economy starts booming for everyone! This makes plenty of sense. If wealthy people get money they buy financial or hard assets. If anyone else gets money they tend to (or have to) spend it. It is that churn of money between people that makes an economy really work out. I fear that MMT would just be a debit card for the wealthy with a veneer of helping the middle class or poor. We got a bit of an example with the Covid loans and hand outs. Nearly all of that money ended up in the hands of the rich ... even the money that was given directly to the poor, it just took a few months.

With "...all political economic schemes..."?

Then obviously the problem is not with MMT but with something else. Are are suggesting that the rich are the problem? Are you also suggesting that the elimination of the rich is the solution?

In either case please clearly state so. You might also suggest how to eliminate the rich and thereby achieve a better world.

Correct, I clearly stated what I thought it was.

>Are are suggesting that the rich are the problem?

Not at all! I am claiming that the govt. officials that have their hands on the ability to disperse "free" money are very easily swayed by lobbyists and influence from those with lots of money or power.

>Are you also suggesting that the elimination of the rich is the solution?

Not at all! I am saying that the rich already have money so there is no need to give the bulk of any new created money to them.

>In either case please clearly state so.

I hope the above is clear enough, if not, just let me know. I can go on about this in great depth!

>You might also suggest how to eliminate the rich and thereby achieve a better world.

I would not and never have suggested any such thing. This is your mis-reading of something I wrote, or your misunderstanding, or (hopefully not) you being willfully disingenuous. In fact, from some perspectives, I might be considered rich!

As we discovered with some recent bank failures, it is somewhat more complicated than this. People did not just use the new money to buy stuff. They also used it to invest, and a lot of those investments would not have made sense if interest rates were higher. Somewhere I saw the example of an "AI dog-washing startup"; this fake business illustrates the type of real but not necessarily sound business that was suddenly getting investment because there was a lot of money flying around inside the economy. Now, when the Fed "raised interest rates," what actually happened was it created new investment vehicles (e.g. treasury bonds) that offered returns on investment that were much more attractive to investors than the previous generation that offered low/zero interest. Banks and others shifted towards these new, better investments and tried to sell their old, worse ones. Hence, some of the money that was flying around began to exit the economy and return to the government coffers. This was bad for banks like SVB that had a lot of "interest rate risk." It was also bad for downstream investments like the AI dog-washing startup, which were now competing with "better" businesses in an environment with less money flying around—this is where you see e.g. the current tech hiring downturn and layoffs.

So that's about what the Fed has been able to do. One assumption you've highlighted here is, to what extent is the Fed doing all this based on research and deliberation? I think the short answer is, we don't know. Interest rates are indeed a blunt instrument, but they are also the instrument the Fed can control, and so that's what the Fed is using. This leaves a lot of room for conspiracy theories and speculation. I happen to think the Fed is doing its best within the constraints of its powers, but the Fed cannot singlehandedly "fix the economy." They can print money and adjust interest rates. And doing these things affects the economy in theoretically well-understood ways.

Ultimately, raising rates is like putting an ice pack on an injury. It reduces the swelling, which is helpful, but it doesn't fix the injury per se—the fixing happens in an entirely different, more complex system, really a system of systems. Just so with "the economy." The economy ultimately exists as a sort of distributed phenomenon in the thoughts and actions of all its participants. These thoughts and actions are not aligned, and so we get the infinite omni-directional tug-of-war known as the "invisible hand of the market." The Fed certainly has a lot of ways to influence the economy, but it cannot force people to think or act in precise, coordinated ways.

If a different 9/11 had happened - say the perpetrators were Russian - I would agree that a similarly large change in society would have occurred. We probably would have done the same crap with the TSA. However, it’s less likely that the US would have invaded Afghanistan, and possibly Iraq (because every hypothetical is less likely than the 100% probability we have now).

Just because something else would have happened doesn’t mean the response would be anywhere near similar.

Inflation in Germany stayed <5% since the beginning of the 90s, most of the time <2% for 30 years (should be even smaller because Germany doesn't use chained dollars), then spiked to 10% with the invasion of Ukraine.

So it's not clear what you have been referring to.