[From Dick Robertson (2000,09.06.1735CDT)]
Do any of you get this "Global Insights" investment newsletter? Here is
an excerpt that you might find interesting. It seems to parallel a
point I saw in one of the Leakage discussions. Do you think it would be
worthwhile to draw the attention of Ira Stoll to Rick's leakage models?
···
____________________________________________________________
A Ubiquitous Economic Platitude
By Andrew West, CFA
There's a certain economic platitude that outrages me every time I hear
it
repeated by the financial press and political economists. Put simply,
it's
the familiar comment that economic growth causes inflation. It has many
variations, including "high employment causes inflation", "slowing
growth
eases inflationary pressures", and "above a certain limit, high
employment
or economic growth generate inflation".
Happily, last week I saw a clever criticism of this thinking, written by
media critic Ira Stoll about the NY Times:
"In most disciplines, the existence for several years of a reality that
contradicts the theory might lead to a reassessment of the theory. If,
for
instance, the laws of gravity stopped working, you wouldn't expect the
Times
to blithely report that "For the last several years, objects have not
obeyed
what most physicists consider to be the laws of gravity." You would
expect
the physicists to reassess the theory. Yet the reaction of the Times
and
its "most economists" to several years of strong noninflationary growth
is
not to reassess the theory that says it is impossible, but to tremble at
the
possibility [of higher growth,] causing inflation."
The faulty economic theory that most economists, journalists, and
policymakers are relying upon is called the Philips Curve. This curve,
now
viewed by some as an economic law, was constructed decades ago and
asserted
that there was a "trade off" between unemployment and inflation - that
high
inflation provided lower unemployment and low inflation created higher
unemployment. But almost as soon as the Philips Curve became economic
orthodoxy, actual experience contradicted it. Inflation coincided with
increasing unemployment in the 70's, while falling inflation coincided
with
reduced unemployment during key periods of the 80's and 90's.
Keep the following in mind: Inflation is a reduction in the purchasing
power of a unit of currency. As governments control currencies, they
create
inflation. Inflation can be observed by tracking changes in currencies
relative to precious metals and other currencies. Over time, a
currency's
decline manifests itself in higher prices for industrial and consumer
goods.
An economy reacts poorly to the uncertainty and confusion of inflation,
which hurts growth, and an economy responds favorably to the stability
of
low inflation, encouraging economic growth. In either case, an economy
reacts to inflation and government currency policy - it cannot create
it.
Last Thursday, the European Central Bank (ECB) hiked interest rates
0.25%.
While the ECB is right to be concerned about inflation, it is taking the
wrong actions. The fact is, a rising CPI is quite likely in Europe,
thanks
to the ongoing weakness of the Euro, and the solution would logically be
to
strengthen the currency and create a mechanism for future stability.
Rather
than stabilizing the Euro's value, instead, the ECB attacks economic
growth
as the carrier of inflation, lashing out at growth with higher interest
rates.
.
And this confusion thrives around the world. A recent economic analysis
of
Poland was incapable of explaining why inflation, despite a slowing
economy,
remained high. Apparently, it never occurred to the economist that
Poland'
s inflation was a direct result of the government's policy of devaluing
the
Polish Zloty (Poland's annual CPI inflation has been 11% to 12% lately,
while over the past seven years the Zloty has been devalued by about 11%
annually relative to the dollar). Conversely, when analyzing Singapore,
orthodox economists have had great difficulty explaining the opposite
situation: decades of sizzling economic growth rates and low
unemployment,
and, because of its framework for a stable currency, consistently low
inflation.
When will these journalists, economists, and bureaucrats learn from
their
mistakes? Probably never. But fortunately, mistakes can often create
investment opportunities - at least for independent thinkers who are
able to
see through such economic platitudes - and at this rate, it looks as if
these opportunities are going to exist for a very long time.
Note: The above represents the personal outrages of Andrew West and may
not
represent the comprehensive outrage of all management.
________________________________________________________________
Best, Dick R.