| What causes inflation?
inflation seems to be a subject few
people understand. the cause of
inflation is likely purposely
clouded by the people you send to
washington. to understand
inflation, we must first review
some history.
the usa started printing script,
paper money, around the time of the
civil war. the script became
promissory notes for an exchange of
gold to foreign countries. all u.s.
citizens were required to surrender
their gold for dollars. all the
gold in the usa became the property
of the government. an exchange rate
of $35 per ounce of gold was
established. in international
trading, the u.s. dollar became as
good as gold.
even though the u.s. dollar was
backed by gold, the british pound
sterling was the major currency
used in the international
commodities market up to world war
ii. as a result of england's
destruction during the war and the
decline in value of its currency,
the u.s. dollars took hegemony in
international trade.
everything went along smoothly for
a few decades in the world. trading
between nations was conducted in
u.s. dollars. after all, the dollar
was as good as gold. then came the
1960s.
for the first time in its history,
the usa could not switch back to a
butter economy after world war ii.
after every prior conflict the
country was involved in, its
military industrial machine was
dismantled. the cold war prevented
that. the country had to adopt a
guns and butter economy, a
combination never tried before by a
non-imperialistic country.
a strain on the u.s. treasury
started when the country engage in
another war, began an expense space
program, and started a costly
entitlement program for the poor
all at the same time. the cost of
maintaining a military to block
soviet expansionism, fight a war in
vietnam, send men to the moon, and
pay welfare checks caused the usa
to spend much more money than it
collected in taxes. the solution
was simply to print more money. by
the end of the decade, the usa had
printed far more money than the
gold supply could cover.
foreign countries were well aware
of the fact that the u.s. had print
money that wasn't covered by
gold. in 1971, france demanded gold
in exchange for the u.s. dollars it
held in its reserves. this move by
france started a run on fort knox.
president nixon countered this run
by taking the dollar off the gold
standard.
without gold, something had to
support the value of the dollar.
thus, the international currency
exchange was established, where
banks began trading currency just
like investors traded stock on the
stock market. it was the demand for
the currency on this market that
set the value of the dollar.
although this solved the problem of
the country's gold reserve
being depleted, it didn't
correct the fact that the usa had
printed far more money than its
economy and the world's
economy needed. inflation, or
devaluation of the dollar, followed
this move by nixon. it took well
into the 1980s until the u.s.
economy earned the excess money
spent by the government during the
1960s.
so. how does the international
currency market determine the value
of the dollar?
when nixon dropped the gold
standard, the usa was the largest
producer of goods on the world
market. when a foreign country
needed to buy u.s. goods it needed
u.s. dollars to do so. the need for
dollars created a demand for the
script. as the usa produced more,
more script was needed by foreign
countries to buy products. this
need of dollars supported the
dollar's value.
nixon realize, however, that it
would take several decades for the
u.s. economy to earn back the huge
government deficits of the 60s. to
help shorten that period of time, a
deal was struck with opec. opec
agreed to demand u.s. dollars on
the international market as payment
for its oil. in return, the usa
agreed to provide military
protection to opec nations against
any soviet threat. this trade in
oil for dollars became known as
petrodollars.
from the mid 1980s through the
1990s, the world went along
smoothly once again. the u.s. money
supply balanced out with the
world's trade, and everything
was hunkydory. but then came an
event that upset the balance of
nature: the start of the european
union.
the establishment of the european
union, and the issuance of its
currency, could not have come at a
worse time for the usa.
the industrialization of asian
nations, like china, had created a
cheap source of consumer goods for
the american public. so much so,
that it created a trade deficit
between the usa and those
countries. as a result, the usa had
to buy more foreign currency with
its dollars to pay for those
imports. this lessened the demand
for dollars on the exchange.
meanwhile, the new european union
became a big exporter of goods to
the world, which increased the
demand for euors on the exchange
and further lessened the demand for
dollars. with less countries buying
dollars, the value of the dollar
declined on the currency exchange,
and americans had to pay more
dollars for the goods it import,
which meant inflation.
this isn't the end of the
story, however. our government is
still in the habit of spending
money it doesn't yet have.
government spending is based on
projected tax revenue. and, tax
revenue is based on personal
income. the old formula for
calculating projected tax revenue
doesn't fit the inflation
cycle the country is facing today.
in the inflationary times of the
1970s the usa was able to produce
more products to sell in the
international market place. this
increased production created more
jobs and more personal income.
this is not the case today.
although america's big
business is selling more on the
international market, the labor for
that production is coming from
outside the usa. because of foreign
labor, personal income is not
increasing as it did in the 1970s.
this is creating shortfalls in tax
revenue, which again has the
government spending more money than
it is taking in, and has it
printing money with no value to
cover its expenses, as it did in
the 1960s. this adds to inflation
pressure.
many foreign countries are viewing
this as the same problem that
prompted france to demand gold for
its dollar reserves, which puts
value of the $27 trillion us
dollars in the currency exchange at
even further risk.
unless the trade deficit is brought
under control we are going to
continue in this cycle of
inflation, which will lead to
further deficits in government
spending and more inflation yet
again.
It isn't just the move away from the butter economy that caused us to "need" more money than what we had in gold reserve to back up. Many of the problems started in the New Deal, but it just took a while to catch up with us. FDR himself fore-casted that giving a man something for nothing would break his spirit. The economy has to based on actual goods, services or commodities, as your dissertation points out. But as generations became accustomed to entitlements, the family disintegrated, crime and welfare costs grew disproportionately.
In fact, 50 years ago defense spending was 60% of the budget and payments for social programs (welfare, social security, medicare and medicaid) was 22% of the budget. In 2006 defense spending dropped to 20% and social programs increased to 60%.
Other well-meaning programs only exacerbate the problem. Minimum wage puts a false floor on the price of labor, and inflation goes up every time you raise it. Meanwhile, the people on fixed entitlement income, the retired worker e.g., end up with less, putting more pressure on their elected representatives, creating a viscous cycle of no-gain, only losers.
To answer, I don't know if future generations can detox themselves of living lifestyles beyond our collective means. But we need to be working in that direction. |
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