Money Inflation and Fed Options (MIFO)                                               by josuter

Is the Fed “between rock and a hard place”, as we hear all the time?  Yes, it’s true.  Are they trapped?  Not necessarily.  But an escape plan must be created carefully. 

Is the integrity of the US Dollar at stake?  True again.  Congress will not stimulate the economy endlessly, so the ball is in the Fed’s court to expand or contract the money supply.  Of course, control of inflation is one of the primary goals. 

The Fed may be adding to (QE) or subtracting from (QT) the money supply in the wrong place however.  It may seem easier to give money or sell bonds to the big banks, but it is not very efficient, either in stimulating the real economy or controlling inflation – though the bankers themselves seem to make out well. 

We are back to the age-old question “What is money?”  A quick functional definition is whatever Gets you Out Of Bed to do your Job  (GOOB-J).  Without getting into too much monetary history, let’s imagine how money might have started.  Let’s imagine way back in some pre-historic time when there was a goat herdsman who wanted to trade a goat for a bushel of apples belonging to a farmer.  “Fine” said the farmer, but my apples will not be ready for a month.  “OK” said the herdsman.  “I’ll give you my goat today in exchange for a stick with these notches and I’ll bring back the stick in one month as an IOU.”  Neither of them knew what an IOU was, but they did not want to look ignorant.  It sounded reasonable.  

All went well until a selfish neighbor who witnessed the transaction decided to notch a stick of his own.  In fact he notched several sticks.  What would happen to such a neighbor in pre-historic tough times?  Nothing pretty.  Just as the crowd was getting ready to break the stick man, someone yelled “Wait, look what he has done!  Now we have more farmers growing apples and more herdsmen raising goats!”  So they spared his life and gave him the keys to the city.  

What then, is “Inflation”?  We probably have too many explanations of inflation too.  A better question might be “Who decides to raise the price of any item and add to inflation?”  No one in Washington as far as we know.  It’s the local barber, car salesman, baker, doctor, and insurance broker who make this decision.  It’s us!

Just to define our words carefully maybe we should give an example of inflation.   Someone in the neighborhood has a bicycle for sale.  Word gets around and several people show up to bid on the bike.  The seller is asking $100.  One person who really wants the bike reaches for his wallet.  Just then another person says “I just got my government benefit today and I can offer $120.”  Now the seller now has a choice.  He can go with the first buyer, and not cause inflation, or he can take the second offer.  Unless he has loyalty to the first buyer for some reason, or is himself a hawk on inflation, he is likely to take the higher offer, a decision which adds to inflation. 

The bike’s innate value has not changed but the number of dollars to buy it has gone up.  One might argue that the price of the bike is inflated and the dollar is deflated, but this is nit-picking with words.  Let’s just say that each dollar is now worth less.

If we could bring the farmer and herdsman from the past, they might suggest the neighborhood start a bike shop and make more bikes.  GOOB-J!  If the amount of newly printed money matches the number of bikes, more or less, then there is no inflation!  It is only when there are too many dollars for the number of bikes that inflation occurs. 

This has fundamental implications.  Enter the Computer.  Information Technology today can be used to make the economy work better if it creates feedback loops closer to where decisions are made. 

Instead of giving money to the big banks, the Fed could help set up a system that deposits money into many small individual accounts in some local bank.  The amount deposited depends on monthly inflation within each zip code area.   A real basket of goods and services (a local CPI) can be measured monthly to measure inflation within each zip code.  If the rate of inflation is kept low or zero, then the Fed deposits some amount of money in each account for everyone over 16 or 18 years old who live in that Zip Code area (call them “Zippers”).  If all the Zippers go out and spend money on the existing bikes or existing services, then inflation goes up and they will get no Fed deposit the next month.   If they get their heads together and start more bike shops, more goods or services, then inflation will remain low – and they will get Fed money next month.  (This is not a UBI which is a set amount is given to people with low income and no decisions are expected.) 

The face-to-face feedback loop of the local person with the businessman is what will help keep inflation under control.  If a business starts raising prices, then the local people can take their money elsewhere or spend it on something else.  But Zippers can also support local businesses by helping to find some strategy to keep down costs on the expense side of the business ledger.  This is the short feedback loop because it is face-to-face and not dependent on new laws.  In fact any system that can be simplified with the right feedback loops can run more efficiently without creating new laws.  This becomes more true with larger systems. 

Will the Fed do MIFO research with test cases?  Maybe not.  The Fed is the only level that can print money, but test cases can still be run at the state or local level (towns, think tanks, academic institutions) if they are willing to make the investment.