There's another fine article on the BBC explaining how Chavez' socialist experiment is gradually crumbling. His latest antic was to devalue the exchange rate, which of course forced him to clamp down on evil retailers who just cheerfully marked up the prices of imported goods accordingly.
That's not the interesting bit. What is interesting is that
a) "Venezuela already has the highest rate of inflation in Latin America - currently at about 25%... Oscar Meza, director of a Venezuelan economic think tank, Cendas, predicted the move would push annual inflation above 33%", and
b) The grey market exchange rate appears to be about $1 = 6 bolivar, but the official rates for imports of "priorities" is 2.60 and for "non-essentials" is 4.30 (in other words, they are trying to depress the value of their own currency, like PR China), which opens up huge arbitrage opportunities: you just change $1 to 6 Bolivar on the grey market, then exchange that for $1.40 (at the less favourable official rate), then exchange that for 8.4 Bolivar on the grey market and so on.
Clearly, a sound socialist like Chavez wouldn't allow that sort of thing, so there have to be strict exchange controls (so that he and his mates can cash in, of course, separate topic). In fact the very notion of having a fixed or official exchange rate must always entail exchange controls.
To get to the point, when the topic turns to inflation vs deflation, my view has always been that you can only have high or hyper-inflation if you also have exchange controls (Weimar, 1970s Britain, Zimbabwe etc). If the government depresses interest rates and/or tries to borrow and spend its way out of a recession without exchange controls, this has little impact on domestic inflation (Japan in the last ten or fifteen years). Ergo, we are unlikely to see high inflation in the UK for the time being.
While the Venezuelan example doesn't prove or disprove this theory either way, I shall use it as an example anyway and see if anybody calls my bluff.
Tuesday, 12 January 2010
Venezuela
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12 comments:
"my view has always been that you can only have high or hyper-inflation if you also have exchange controls "
So if a government just keeps printing money but has no exchange controls what happens then?
Ross, "not much" is the answer. But please define "printing money" for these purposes.
All ideology, no practicality.
JH, to be fair, I am all practicalities with no ideology whatsoever. That's not the sort of thing that'll get me elected.
Mark- I suppose any form of increasing the money supply- literally printing money.
Ross, they tried that in Germany after the reunification - all Ostmark were swapped one-to-one into Deutschmark, despite the fact that the long-established grey market rate was ten-to-one (i.e. an Ostmark was worth DM 0.10). So people with cash got 'richer' and people with liabilities got 'poorer' (and lots of East German factories went bankrupt), overall the West German taxpayer got slightly poorer because he had to pay for it all (despite all the subsidies for the East flowed straight back to the West, separate topic).
Apart from a short-term spike in the price of secondhand cars, nothing of note happened. The Bundesbank, historically wary of inflation jacked up short-term interest rates* and that was the end of that.
* As a result of which sterling was forced to leave the ERM, separate topic.
The Sterling money supply is ultimately controlled by the British government. They can increase it by "printing money" (either literally or by selling bonds to the central bank). If they increase that supply, both inflation and foreign exchange devaluation will result.
Exchange controls, in theory, could prevent the devaluation (but not the inflation), but in practice they don't work anyway.
Well, I was bound to call your bluff, wasn't I?
AC, wot? Sterling fell by 20% or 25% over a year ago. The BoE has been shuffling bits of paper to and fro for over a year (also known as QE). Govt has been running up debts like topsy, which is not printing money, it is just deferred taxation.
It'd be helpful if you can produce a real life example of actual money printing (not QE nonsense or deferred taxation, like £1 trn public sector index-linked pensions liability) in an economy without exchange controls which has led to high inflation.
Hmm. Let's think about this.
Firstly I am of the Misian view that inflation is a function of money, not prices. Excess inflation causes prices to rise, not the other way about.
Money is just a commmodity that gives us a convenient way to compare the price of a sheep with a pencil.
Money also acts as store of value.
Current FIAT money is a sort of Belief system. That is we all agree that these bits of paper are worth £x, even though there is nothing to back them (traditionally gold) as such.
But, if we sum the value of the whole of the UK at date X with £y in circulation, and then at date X + 1 we double the supply of £'s then the price of all of the UK will have to double to maintain the same value. This action would also halve the value of all savings held in £'s. That is the store of value function of money would be undermined.
Now, how would the absence of exchange controls affect this? Well, it could lead the UK economy to adopt a sounder alternative currency, much as in the same way as Zimbabwe has adopted the Dollar. Or, in my true Libertarian world, local people would create new, more reliable money to use. These actions would undermine the devalued official currency and eventually drive it out of existence. In other words freedom, markets and competition work their usual magic and discipline the Goverment and central bank ne'er do wells. Of course Governments know this so they make sure that they have legal powers to coerce their people to use their rotten currency on threat of violence.
Luckily international markets are outside the reach of the violence of a single state and since all governments need to raise money on the international bond and currency markets those same international lenders will require bigger premiums to lend to us in our own currency or to charge the same higher premiums to lend to us in their currency which will require higher future repayment costs. This should have the same effect as internal money competition. It might just take rather longer.
British government does not control the UK money supply. At best it controls M1. Everything on top of that is driven by the market - specifically borrowers willingness to borrow and lenders willingness to lend. Because neither party is willing, printed money sits in banks as "excess reserves" and broad money supply drops (when marked to market).
Most economists get casuality the wrong way around for money supply. The central bank is reactive, and doesn't drive it.
Kruaser: Fair enough. I'm posting to learn. But "specifically borrowers willingness to borrow and lenders willingness to lend" can be affected by central bank policy. As can broader money be by other policies. If central banks set interest rates surely they can signal changes in supply and demand? Plus do not weaking of bank capital requirements by state supervisors also encourage banks to create more credit?
Look, there is something here but I cannot quite put my finger on it. I think that push / pull driven inflation, that is a general rise in the price level, is dealt with by markets making available more stuff to increase the supply and bring down the price. But the creation of money from nowhere devalues it and consequently affects prices, but not values. I was taught that central banks can control the broader money supply by using a range of tools and can increase the general price of money by increasing the Base Rate.
Overall I heartily distrust central banks and State money monopolies, because I highly distrust governments. They are more interested in their agendas for getting and keeping power rather than actually being sensible with our wealth.
L, before we plan something new it is best to understand the way it is at present, I find, that way you need fewer tweaks to get where you want.
K, exactly, that's another way of explaining the same general idea.
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